MMG Special Report: Barry’s Detailed Forecast for 2010

by Barry Habib

The past couple of years have been challenging for the mortgage and housing

industries, as well as the global economy as a whole. So what does the future have in

store? Let’s first look back to see how we did on our forecast for 2009.

Scorecard for 2009 Forecast:

• After accurately forecasting a down year for the Stock market in 2008, we hit the

nail on the head again by forecasting an up turn in 2009.

• Our predicted hot Stock picks – which included a variety of financial companies

as well as oil – were on the mark again this past year.

• We also predicted that the Federal Reserve would hold the Fed Funds Rate where

it was for the year, and sure enough, they did.

• On the employment front, we accurately stated that the job market would get

worse; with the unemployment rate rising at least into the 8% range…and that

turned out to be an understatement as unemployment topped 10% late in 2009.

• We saw the US Dollar weakening during 2009 before stabilizing and even

strengthening. The Dollar did in fact weaken, and has strengthened a bit at the

end of 2009.

• In the housing market, we predicted home prices would begin to stabilize and

that consumers would start buying again during 2009…and this appears to have

been the case.

• Most importantly, our home loan rate forecast was on target. We predicted rates

would remain in a range of 4.5 - 5.5%, with the lower end of that range coming

in the earlier part of the year and then moving toward the higher end of the

range later in the year. Rates did remain lower longer than we thought, thanks

to additional Fed buying – although they did begin to creep toward the upper end

of the range at the end of the year.

What’s Next? What Should You Expect in 2010?

After a couple of rough years, the big question again this year is the global economy.

In 2009, Stocks helped put us on the path of recovery with an amazing run after

Congress addressed the mark-to-market accounting rules. For example, Stocks have

soared since hitting lows in March of 2009. In fact, between March and December, the

Dow was up close to 60%, and the NASDAQ climbed over 70%. Unfortunately, the

market is still fragile, which means any negative surprises will take the wind out of the

sails quickly and make it tough for Stocks to eke out significant gains this year.

The sector I like best for growth this year is healthcare, since it hasn’t rebounded as

much as other sectors and is due for a bump. American demographics show that the

country is aging, which means more medical attention will be needed. Additionally, any

Healthcare Bill that insures more people should translate into more volume for

healthcare providers.

Having almost doubled during 2009, oil prices are still half of what they were in July of

2008. This wild range for oil makes it hard to forecast. There is plenty of supply, which

will weigh on prices. But the US Dollar may continue to struggle, which will help buoy

the price of oil. Overall – we see oil making its way higher by the summer.

Gold has had a huge run higher – and although prices declined at the end of the year,

we see Gold resuming its uptrend. A lack of confidence in sovereign debt, a struggling

Dollar, and the overhang of inflation in the future should help Gold make new highs and

push toward $1400/ounce.

As far as the Dollar goes, it had declined significantly during 2009, and will likely

decline a bit more in 2010. The endless supply of debt from government programs and

low interest rates will weigh on the Dollar.

In the job market, we’re not nearly out of the woods yet. Even in the waning months

of 2009, we still saw unemployment rates at 10% and nearly 500,000 new jobless

claims coming in each week. The fact is…we need to see Initial Claims drop beneath

400,000 before we see stabilization in the labor market and unemployment rate.

There are about 154M people in the US labor force. And the size of the labor force rises

on average by 125,000 per month, due to population growth. That means we will need

to create very close to 125,000 new jobs each month to simply keep the unemployment

rate stable. In order to get the unemployment rate to decline – significantly more jobs

will need to be created. For example – if we would like to see the unemployment rate

get back down to the 6% level that had been the norm in recent years, an additional 6

Million jobs would need to be created. If this were going to happen over a five-year

period, that’s an additional 100,000 jobs per month over and above the 125,000 per

month needed to keep up with the population. That means we’d need to see positive

job growth of at least 225,000 jobs created per month, just to reach that 6% level

within five years. Is this easy to do? Well, in the entire history of the United States, it

has only happened one year – during 2006. This leads us to believe that the new

normal will be higher unemployment rates for quite some time.

And consider the almost 800,000 workers who are not even categorized as

unemployed, but simply as “discouraged”, as they have not actively searched for a job

in the past four weeks. There’s a lot that can be assumed here, but it’s hard to imagine

that these people would not reenter the ranks of those seeking employment if

conditions improved a bit. That means that these people would need to be absorbed

into the system before the actual unemployment rate could decline.

Additionally – perhaps the largest category that could skew the numbers are those

individuals who are accepting part-time work but would prefer full-time employment. A

whopping 10 Million people are in this category. You have to think that many

employers would take these current part timers and give them full-time work, before

hiring someone new. Again, this will make it very hard to see the rate of

unemployment make any meaningful decline this year.

Home prices began to stabilize during 2009, and homes sales showed some signs of

encouragement. We expect more of the same in 2010, although there will be some

additional headwinds: higher rates and expiring tax incentives will likely create a lull

during the summer months. After a modestly good start to the year, home prices could

actually decline in some areas by 5% to 7% once the temporary stimulus expires. In

the end, however, home prices should eventually and slowly begin to firm up toward

the end of the year.

The Fed will have their hands full during 2010, and a big question will be whether the

Fed can retain their independence in the face of political pressure. Remember, the

long-term best interests of the country often conflict with the short-term reelection

interests of politicians.

It’s highly likely that the Fed will be “on hold” for rate changes during most of 2010.

The Fed will have to try and play Goldilocks…and get it “just right” for the amount of

time they leave interest rates at these historically low levels. Hike rates too soon, and

it could derail an already fragile US economic recovery. And let’s remember that the

government has literally spent Trillions to try and provide stimulus to spark that

economic recovery. And the Fed will likely err on the side of keeping rates lower

longer, as they certainly would not want to send the US into a double-dip recession,

making all the stimulus appear to be a wasted effort. And the Fed will have an excuse

to keep rates low, so long as unemployment shows no sign of improving. But there is a

very big risk in keeping rates too low too long…and that is inflation.

While inflation doesn’t appear to be a present concern, it can be very difficult to

control once it takes hold. And its effects can be very damaging. Inflation is the

enemy of all Bonds – and if it does take center stage, the Fed will have to hike rates

very aggressively to attempt to keep it at bay.

This low interest rate environment in the US has provided fertile ground for what is

known as the carry trade. This is where large investors can borrow at very low rates,

and leverage into higher yields, resulting in huge returns.

Let’s take an example: An investor wishes to purchase $1M in Bonds yielding 4.5%.

This would provide $45,000 as an annual return. In order to make the purchase, the

investor puts up only 10% of $1M, or $100,000 in cash – and borrows the other

$900,000 at current low rates offered to large investors, such as the 3 month LIBOR

currently at 0.25% plus .75%, bringing them to a total borrowing cost of 1%. This

investor borrowed $900,000 at 1%, which means their interest costs are only $9000.

When the $9000 is subtracted from the $45,000 investment return, this leaves them

with a $36,000 return on their $100,000 investment – or a whopping 36% “carry trade”

return – on a very stable Bond investment vehicle.

At some point in the future, this carry trade will be unwound as short-term rates begin

to move higher. The results will not be pretty – and many will get caught in the buzz

saw. This also means that Bond prices will come under pressure as the investments are

sold.

2010 is a big election year, and politicians will be doing their best to influence the Fed

to keep rates low. With 36 of 100 Senate seats being contested and all members of the

House facing re-election, there could be some interesting changes ahead. Currently,

the Senate is made up of 58 Democrats, 40 Republicans, and 2 Independents. But, as

mentioned above, 36 of those positions are up for re-election. In the House, there are

256 Democrats, 178 Republicans, and 1 vacancy…and they all face re-election. When

the votes are counted, I see Democrats losing a number of seats…but probably not

enough for Republicans to regain control.

Now for the big question… where will home loan rates go during 2010 and why?

We’ve been forecasting rates for a long time, and this is by far the easiest call we have

ever had. Rates are going higher in 2010. We do not think that the low rates seen

during 2009 will be seen again. There will be more supply coming to the market in the

first quarter, while the Fed’s purchases will be winding down. The overall trend for

rates during this period will be higher, but as usual, this will never happen in a straight

line. There will be waves and cycles moving up and down – but the trend is clearly up

for rates.

Once the Fed’s Mortgage Backed Security buying program has expired at the end of

March, it is likely that rates will edge higher still towards the summer. Eventually,

supply will decline as origination volume slows – and mortgage rates should stabilize.

But if there are hints that the Fed will be looking to hike rates, thus signaling the end of

the carry trade, mortgage pricing will significantly worsen. The range for rates during

2010 is wide, with the lower end just above 5% toward the very beginning of the year.

The upper end of the range could be as high as 6.5%, with rates being very volatile

throughout. It is typical to see prices worsen more rapidly than they improve…but

2010 will exaggerate that characteristic, with pricing losses coming far more quickly

and sharply than pricing improvements.

Final Words of Wisdom

You’ll also want to continue to educate your database about the Homebuyer Tax Credit

and low rates in the early months of 2010. Use the impending tax credit deadline to

move them off the fence before they miss this opportunity. Remember, rates are about

1% lower than they would be if Fed weren't buying all those Mortgage Backed

Securities. On a 200K mortgage, that would mean about $8,000 would be needed to

buy your rate down that 1%. Of course, you also have to factor in the Homebuyer Tax

Credit – which is $8,000 for new homebuyers or $6,500 for current homeowners who

are moving up. When you combine the 1% lower rate with the tax credit, you see that

homebuyers stand to gain between $13,500 and $16,000 on a home in the mid-200K’s.

That’s a big incentive for homebuyers to act now, while both incentives still exist.

Finally, in today’s wired world of Internet news and social networking sites…don’t

confuse data with insight. Remember data is everywhere – anyone can regurgitate

economic report numbers. But trusted insight and advice is a valued commodity.

The forecast for 2010 is challenging and realistic. But through it all – there is reason to

be optimistic. Each economic condition described above offers an opportunity for us to

capitalize on, whether it be by trading the markets or educating our customers, there

are ways to come out ahead and differentiate ourselves from our competitors.

Additionally – the mortgage herd will continue to thin. Those currently in the business

are survivors, and stand a good chance of gaining further market share in the year

ahead.

While we often wish for conditions to be better – we should be mindful that conditions

could always be worse. Make the most of the current market conditions you are in –

and have a great year ahead.