An array of recent reports strongly suggest that the economy is in for many months of rough sledding and that the current economic crisis is likely to last well into, if not through, 2009. In fact, the economy seems to be reeling on almost every front.
The real estate industry continues to experience serious setbacks and expectations are that these setbacks will continue for the foreseeable future. The number of bank repossessions and foreclosures has risen dramatically. For example, banks repossessed almost three times as many homes in July of 2008 as they had in July of 2007. Similarly, the number of homes receiving foreclosure notices has jumped 55% from a year earlier. Perhaps, more disturbing, even prime mortgages are starting to default at unusually high rates. For example, delinquency rates on prime mortgages of $417,000 or less are almost twice as high as they were a year ago, while delinquencies on larger prime loans are almost 4 times higher. Homeowners, in general, have much less equity in their homes than previously. As of June 30, 2008, the average homeowner owed 95% of the value of the home to lenders compared with 76% when the loan was made. Zillow.com, an internet-based provider of home valuations, recently reported that 29% of owners who purchased homes in the last five years, now owe more on their mortgages than their homes are worth. According to the S&P/Case-Shiller Home Price Index, the average home has dropped almost 20% from its high water mark in 2006. The projections are for more pain in the future. The Case-Shiller Housing Futures Index, traded on the Chicago Mercantile Exchange, currently anticipates that the average home will ultimately lose 33% of its value from the 2006 high water point. Respected bank analyst, Meredith Whitney, thinks things will be even worse. She projects that the average home price will ultimately drop 40%. None of this is good news for the economy. It does not appear that the real estate decline which lead us into the current credit crisis has come close to running its course.
Similarly, unemployment continues to adversely impact the economy. Employment has dropped steadily for the last 7 months with a total number of 463,000 jobs being lost during 2008. Economists project that unemployment will continue to increase in the coming months and ultimately peak at approximately 6% in early 2009.
Household income continues to be adversely impacted while consumer prices are rising at the second fastest pace in the past quarter century. As a result, there has been a significant decline in consumer buying power that has been impacting retail businesses in an adverse way. Economists project that household spending will continue to decline in the coming months as unemployment continues to rise and consumer prices continue to increase while the credit markets continue to tighten. None of these developments bode well for the economy.
In June, Steve Pearlstein of the Washington Post wrote that “This Recession, Its Just Beginning.” Among other things, Pearlstein concluded that, “This thing’s going down, fast and hard. Corporate bankruptcies, bond defaults, bank failures, hedge fund meltdowns and 6% unemployment. We’re caught in one of those vicious, downward spirals that once it gets going, is very hard to pull out of.” Unfortunately, recent events suggest that Mr. Pearlstein was right on point. Recently even Secretary of the Treasury Henry Paulson seemed to concur with Pearlstein’s analysis. “I think its going to be months that we’re working our way through this – clearly months.” Paulson said.
This scenario suggests that both the economy and the markets will remain fragile and volatile in the months ahead. Investors need to carefully consider prospective market conditions when analyzing their portfolios and evaluating their own individual courses of action.