A recent report authored by Rick Sharga using data from First American DataTree examined how housing has fared and recovered from past pandemics, and finds signs for optimism in recovery.
Sharga, the founder of consulting firm CJ Patrick Company, talked about the report, and how housing has performed better than the overall economy. The only exception to that rule in the past 50 years, Sharga said, was the Great Recession. “And the reason for that is that it was housing that took us into the recession. In just about every other case, what we’ve seen is housing has helped lead us out. And that’s something we can hang on to as hopeful as we get through the COVID-19 pandemic.”
Listen to Sharga’s conversation with Mortgage Media’s Eric Souza here, and read the lightly-edited Q&A below. They covered a variety of topics, including servicers’ flexibility to adapt; forbearance volumes; the hit to the renters’ market; and his predictions for how the market will be impacted long-term.
MM: How has the housing market fared during prior pandemics or economic shocks, and what about recovering from previous recessions?
Rick Sharga: The good news is that the housing market has proven to be extraordinarily resilient when it comes to pandemics, recessions, economic shocks. We took a look in the report at pandemics since 2000. That included things like SARS and the swine flu. And the good news, for anybody who was in the housing market or the mortgage industry, is that while we did see transactional volume dip a little bit during the peak periods of those pandemics, home prices remained steady. In most cases, it actually went up during the course of the downturns, and continued to grow after the pandemics.
So housing, in general, has performed better than the overall economy. Better than the stock market. And in fact, the only exception to that rule in the past 50 years is the last recession, the Great Recession. And the reason for that is that it was housing that took us into the recession. In just about every other case, what we’ve seen is housing has helped lead us out. And that’s something we can hang on to as hopeful as we get through the COVID-19 pandemic.
MM: How different is this pandemic from the prior ones, talking about SARS and Swine Flu?And can we expect the market to recover the way that it has in the past, considering that this has been so much larger in scope?
Rick Sharga: Well, to a certain extent, we’re in uncharted territory here. We’ve not seen a global pandemic that has been this infectious, that has sickened so many people and killed so many people, really, going all the way back to the Spanish flu. And unfortunately, housing data going that far back is kind of sparse, so it’s hard to compare. We also haven’t seen anything that’s caused this kind of global economic shutdown and governments have reacted as strongly as they have to try and contain the spread of the virus, flatten the curve, as the saying goes.
The closest proxy we could find recently was probably the terrorist attacks on 9/11. And then subsequent concerns about things like anthrax poisoning. So we did see the economy then, take a pretty major hit and pretty much stop for a period of time. And during that period of time, we did see home transactions slow down, understandably, in the months of September and October. But after that, they took off like a rocket, and it looked like pent up demand was really driving the market. We also saw a period coming through that recession where home prices went up 20 of the next 21 months. So again, even that kind of economic shock, admittedly probably not as widespread as this one, admittedly not something that really affected the global economy like this one has, we saw housing recover, again, much more quickly than the overall economy. So again, another reason for hope as we go through this pandemic and hope for the best for the housing market as it recovers.
One thing probably worth noting, we’ve seen some other countries, some other regions that have preceded us in terms of the coronavirus and economic shutdowns. And what we’ve begun to see, is those markets, places like China and Hong Kong, after a dramatic drop off in sales transactions for housing, have begun to recover. And they’ve begun to recover as early as two-to-three weeks after the end of the pandemic was declared. While that doesn’t suggest necessarily we’re going to see a V-shape recovery, it does suggest what I’d call – and I’ve seen a couple of other analysts refer to – as sort of a checkmark-shaped recovery, where the drop off was pretty significant and sudden, and you do start to see a pretty healthy rebound, but not quite at the same pace that it dropped off. So again, good news tempered a little bit by reality. We’re not sure exactly where this goes, because we haven’t had one like it, but again, some cause for hope going forward.
MM: I understand that you think the market was much better positioned for recovery this time than it was entering the Great Recession back in 2008. Can you help explain that?
Rick Sharga: The fact of the matter is that the housing market was off to a really good start in 2020 before it got sick. It was probably one of the earliest entities to catch the coronavirus. So we had a pretty good January and February. The beginning of March, sales were actually going very well. Prices were steady. They were rising, but not exorbitantly. Jobs were being created. Wages were going up, actually at a faster pace than home prices were going up. Interest rates were near historical lows, and even the builders seem to be coming back online.
So, all of the underlying fundamentals that would predict which way a housing market is going to go, were pointing in the right direction. The only continuing weakness we had in the housing market was lack of inventory, and the builders seemed to be coming around and getting ready to address that. And then COVID-19 hit and pretty much everything stopped. If you compare that to where we were in 2008, this time, homeowners had a record level of equity. Back then, the loan to value ratios were completely out of whack. People were getting houses for just about nothing down. In some cases, there were negative amortization loans being used. The credit quality of the borrowers was uneven at best, and pretty bad in a lot of cases. So what you had were overpriced homes that were purchased by unqualified borrowers, who were sitting on loans that were going to reset – and probably reset at a rate that those borrowers couldn’t afford to pay. It was a house of cards, and it all came tumbling down. And this time, we’re not dealing with a market that’s overbuilt, we’re dealing with a market that’s underbuilt. Demand should come back and drive things forward. Again, you talk about equity, you talk about interest rates, all of those things are different this time than they were last time.
MM: Talking about forbearance. Is there a fundamental difference for the mortgage industry and the market in general between the forbearance programs we’re seeing today and the delinquencies and defaults we saw during the last downturn?
Rick Sharga: So one of the very heartening things about what’s happening today is that, this time, we’ve seen the government and the industry come together to try and address the problem before it becomes too widespread when it comes to financing. So the forbearance programs today are going to undoubtedly keep hundreds of thousands, if not millions of borrowers, out of default. And as anybody who’s been in the mortgage industry for more than 15 minutes can tell you, it’s much easier to work with a borrower to prevent a default, than it is to work with a borrower who’s defaulted, and then try and fix the problem after the fact. What we have now is a problem where servicers are being deluged by borrowers who are looking to get into the forbearance program, and candidly, it’s happening at a very difficult time for servicers because most of their staffs are scattered about working from home right now and trying to do this in a very decentralized manner. The problem we had last time was servicers were trying to track down borrowers who were hiding from them because they defaulted on their loans, and then, in a lot of cases, using antiquated tools and programs to try and resolve those issues.
I think the wisdom this time is trying to get out ahead of it, give people the breathing room they need to get back on their feet financially, and I really do believe this is probably going to save millions of borrowers from going into foreclosure. Which by the way, will ultimately save the housing market, the mortgage industry, and not have the kind of awful impact housing had on the overall economy last time.
MM: That’s nice to hear that kind of optimism. I’m hopeful that that’s the case.
Rick Sharga: We’ve already had almost 6% of borrowers reach out for forbearance, and we’ve also had the industry and the government begin to respond appropriately. One of the dangers here – and I know you’ve covered this extensively – was that mortgage servicers were still on the hook to make payment advances, even if borrowers weren’t making their monthly mortgage payments. And recently, we’ve had both Ginne Mae come in with a credit facility that will provide emergency liquidity, and very recently, we’ve had the FHFA put programs in place that will cap a servicer’s exposure at four months for Fannie and Freddie-backed loans. So again, everybody seems to be coming together, rowing in the same direction, and hopefully they’ll keep the boat from sinking.
MM: How big do you see this forbearance program getting? We’re already at 6%. Do you see it getting much larger?
Rick Sharga: The folks who’ve been projecting how big the forbearance requests could get have gone as high as 25%. That strikes me as a frightening number. One of the things that I think is keeping the number from getting bigger than it is, is that, at least in my opinion, the early stages of this downturn caused by the pandemic, are probably hitting the renter market more significantly than it’s hitting the homeowner market. If you look at the industries where the job losses had been, predominantly, you’re looking at travel and tourism and hospitality, restaurants, retail. Generally speaking, you’re talking about hourly wages and relatively low-paying jobs. The homeownership rate among people in that category tends to be 50% or lower, whereas if you’re talking about white collar jobs, higher income jobs, the home ownership rate goes up around 80%. So I think the people that have been the first ones to lose their jobs are less likely to be homeowners and renters. And that’s probably keeping the forbearance numbers from getting as big as they might be. I do think we’ll see them tick up a little bit in May, assuming the shutdown continues, because that’s the next time we’ll see payments due, and people may have gone through their savings by then. But to forecast it going much north of 10 to 12% I think is starting to get probably a little bit inflated. At least I hope that’s the case.
MM: What do you think of the notion that the solution to liquidity problems is to transfer servicing from small shops to larger servicers?
Rick Sharga: Yeah. One of the scariest things I heard from any industry official was the notion that we would resolve the servicing liquidity dilemma by yanking servicing from small shops and sending it over to large shops. It was a real head-scratcher of a comment. And the liquidity problem, by the way, we were talking about this a minute ago, if we got to that 25% uptake on forbearance and if borrowers stayed on the program for six months, my back-of-the-envelope math says that servicers would have been on the hook for about $90 billion, which would have bankrupt that part of the industry and essentially guaranteed that nobody would be able to get a mortgage loan for quite some time. So I think we’ve moved from that. One of the comments was, we’d just move servicing from small shops to big shops. Really, really bad idea on a couple of accounts. One is that for distressed borrowers, the largest servicing shops are probably not the best equipped to handle distressed borrowers. They’re optimized to process huge, huge numbers of on-time payments very, very efficiently. And they do that extraordinarily well. The smaller shops tend to be more along the lines of special servicers who are kind of a high touch operation and much used to working in one-on-one relationships with borrowers – particularly borrowers who have trouble and need some help getting back on their feet. So to take borrowers who are now in forbearance because they’re not working and put them in a shop that doesn’t necessarily have the processes and the people in place to work with them, on its face, is kind of a bad idea. The other question it begs is which large servicers are going to be anxious to take on a huge portfolio of loans that are already in forbearance and whose borrowers are out of work? It’s kind of mind-numbing to even try and guess why a big servicer would be interested in taking on those pools, and if the answer is because the government’s asking them to do them a favor, you’d just have to ask how well that worked out for Bank of America when they took on Countrywide last time. So it doesn’t seem like the right solution, and I think this new credit facility, this new cap on exposure for servicers will probably make it that it doesn’t have to happen that way.
MM: Let’s wrap it up with another question. Do you see any other long-term changes to real estate and the mortgage industry coming out of the pandemic?
Rick Sharga: Well, there’s certainly some that are happening right now that I think will be temporary. We’re seeing credit tightening extraordinarily. JP Morgan Chase recently announced that for its correspondent warehouse wholesale lines, borrowers now need a minimum FICO score of 700 and a minimum down payment of 20%. That’ll wipe out most of those borrowers. We’ve seen the non-QM lending market pretty much evaporate. There’s still a few players making some loans, but not very many, and that’s because the secondary market isn’t taking on anything that looks even a smidge risky. We’re seeing the same thing in Jumbo. One of the lenders, it might’ve been Wells Fargo, announced that they were still issuing jumbo loans but only with a 10% interest rate, and if you wanted to do a refi, you needed $250,000 in liquid assets. So they basically voted themselves off the island. I do think those will be short-lived. I think once he economy gets back on its feet, you’ll see lending kind of go back to normal. The commercial market is where I think you’re going to see a lot of changes. I think the office market going forward may see really foundational changes. A lot of companies have figured out, suddenly and not on purpose, that they can be as productive or more productive with a decentralized workforce, and it will have to at least cross the CFO’s mind why they’re spending all this money for overhead if they can be just as productive. And not pay for that really, really big office. Even the structure of offices is likely to change going forward as we find out how ill-equipped these offices are to provide things like social distancing. But I think retail and hospitality in the commercial market are going to take a hit. I think there’ll be some more opportunities in multifamily after we get through the end of the pandemic because some people are going to have to rent longer than they planned while they get their finances in order.
But ultimately, the market hopefully will recover as the jobs come back online. And people have a chance to get the economy into gear again.
MM: Thank you, Rick, for talking about what you see happening going forward with COVID-19 based on the analysis of the data that you’ve gone through from pandemics of the past. Rick Sharga is founder and CEO of CJ Patrick Company. Thank you again, Rick Sharga, for coming on.
Thanks for having me.