War Room 29 Feb 2012 Housing – Rebound or Reckoning Ahead?

War Room Monthly macro discussion Using tools in context Update on HiddenLevers Features Your feedback welcome

Housing – Rebound or Reckoning Ahead? Housing Fundamentals Housing – Harsh Realities Scenario: Return to Long-Term Trend Scenario: US Housing Rebound

HOUSING - FUNDAMENTALS HiddenLevers

Housing Overview: Prices Commercial real estate has worked off the bubble faster than residential, touching 0% 10 year growth recently.

Housing Overview: Foreclosures The foreclosure rate is declining – this effect is more pronounced in Commercial RE, which has no robo-signing issues.

Housing Overview: Construction New housing starts and home builders' sentiment track closely, and both show a slight rebound since the housing crash.

Housing Overview: Home Sales New home sales are at all-time lows despite mortgage rates – the traditional inverse relationship has broken down.

HOUSING – HARSH REALITIES HiddenLevers

Housing Inventory Inventory charts = mixed bag - Fast decline in overall inventory - Higher inventory than late 80s still - big gap = shadow inventory Shadow Inventory - 17 months of supply - downside pressure - head and shoulders?

Household Formation Usual Bullish Argument: Housing Starts below trend (5 year low)  IRRELEVANT Housing Inventory - About 3.5 mm excess US homes - Must be absorbed by household formation Household Formation - Usually above 1mm/year - Closer to 500k/year now - Affected by: - marital status changes - birthrates - immigration - joining families - adult children at home

Household Formation – Families Family Household Formation = key to equilibrium Non-Families = 34% of US population – dipped in 2008, now back to trend Families = 66% of US population – decoupled since 2008

SCENARIO: RETURN TO LONG-TERM TREND HiddenLevers

Return to Long-Term Trend: Timeline

Return to Long-Term Trend: Context

Return to Long-Term Trend: 120 years

Return to Long-Term Trend: What’s next?

SCENARIO: US HOUSING REBOUND HiddenLevers

Housing Rebound: Affordability Affordability highest in decades Historically low mtg rates + price declines 75% of homes sold are now affordable to median income buyers In many markets buying cheaper than renting Sources: National Associations of Realtors, Home Builders, and Wells Fargo NAR Affordability Index NAHB Housing Opportunity Index

Housing Rebound: Jobs = Households Household formation at half historical rate as young adults stay home Job growth will eventually lead to household formation Very tight correlation between household formation and housing market Sources: National Associations of Realtors, Home Builders, and Wells Fargo

Consequences: 1.Home prices may suffer up to 30% more downside 2.Good chance of US economy going into recession 3.Pendulum’s don’t stop in the middle 4.Home ownership dies as an American tradition Housing Rebound vs Back to Long-Term Norms Consequences: 1.S+P to new highs, but muted impact from here 2. Industrial commodities will benefit most 3.Employment picture change will be cause 4.Rebound will in turn affect employment in sector

HiddenLevers - New Features Fixed Income Support Time Frames for Scenario Modeling Yield taken into account in Models Auto-notification of Missing Tickers Coming soon: Macro Profile for a Portfolio