Monday, August 27, 2007

More on Mortgage Lending and Lower-Income Homeowners

Last Wednesday's Wall Street Journal carried Holman Jenkins' weekly editorial, which dealt with homeowners on the low end of the income distribution.

Citing the work of Carolina Katz Reid, then a graduate student at the University of Washington, Jenkins wrote,

"But a home financed by a mortgage is not just an asset. It's also a liability. We owe thanks to Carolina Katz Reid, then a graduate student at University of Washington, for a 2004 study of what she dubbed the "low income homeownership boom." She considered a simple question -- "whether or not low-income households benefit from owning a home." Her discoveries are bracing:

Of low-income households from a nationally representative sample who became homeowners between 1977 and 1993, fully 36% returned to renting in two years, and 53% in five years. Suggesting their sojourn among the homeowning was not a happy one, few returned to homeownership in later years.

Even among those who held on to their homes for 10 years, the average price-appreciation gain was 30% -- less than if their money had been invested in Treasury bills. This meager capital gain was about half that enjoyed by middle-income homeowners.

A typical low-income household might spend half the family income on mortgage costs, leaving less money for a rainy day or investing in education. Their less-marketable homes apparently also tended to tie them down, making them less likely to relocate for a job. Ms. Reid's counterintuitive discovery was that higher-income households were "twice as likely to move long distance if they're unemployed." "

I have to admit, I was stunned by this research. So much for the 'ownership society,' at least at the really low end of the incomes distribution curve. However, when you think about it, it's very sensible.

As a sometime homeowner, I can vouch for a home being a lumpy, often-illiquid investment which requires substantial cash for for maintenance. And it certainly can restrict mobility.

It's eminently reasonable to conclude that lower-income people are better off spending their assets on education and the ability to remain mobile, for employment purposes. Saddling them with a large, illiquid fixed asset does not actually make much sense.

Jenkins goes on to note,

"The irony is, were the owners of the subprime paper inclined to make themselves known and realize their losses, the majority of these loans would likely end up paying off. Buyers of the severely discounted paper would make a killing and the market's dispersed decision-making, which recently became its weakness, would return to its normal role as a strength. In any case, subprime lending accounts only for about 15% of outstanding mortgages, with an uncataclysmic $90 billion worth facing foreclosure.

Fluctuations in the S&P 500 wipe out as much wealth every ho-hum day without drying up credit globally. But today's caginess problem is partly a regulatory and legal problem, because something is clearly stopping holders of temporarily unmarketable mortgage paper from sidling up to their bankers and asking forbearance on the loans financing these positions.

His comment about a corresponding loss in equities from an S&P Index decline is a point I've made in a prior post. The current market turmoil is overblown, in that too much is made of the source of the losses, rather than the rather modest likely net losses when the dust settles. Capital markets is all about taking risks, and sub-prime-based paper is just another example of how that can result in losses. It's part of investing.

The Democratic presidential contenders are currently outbidding each other in ways to help "homeowners" (a dubious term in the present instance) avoid foreclosure. What might really benefit these citizens is being freed to return to renting, where some real bargains will likely be had in the months and years ahead."

Now there's a good point. With a swollen residential housing supply, rents will probably be on the softer side for years. Good news for lower-income citizens seeking to save money for investment in assets such as their children's, and their own, educations.

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