This from Money Morning:

The U.S. housing market is already being pounded by the “perfect storm.” And the outlook for the New Year is for the stormy weather to continue – and probably to get worse.

As if a locked-up credit market and tidal waves of foreclosures weren’t already enough, we’re now watching unemployment climb and consumer confidence plunge.

But even when the housing market is taking on water, there are ways to stay afloat. Indeed, investors nimble enough to maneuver can even make money.

The watchword on this market, though, is caution.  If an investor decides to test the waters, beware of the extraordinary financial undertow.

Here’s a look at what’s happening now, and what the implications there are for investors in the New Year.

Rising Unemployment Feeds into Sinking Demand

The grim reality is that skyrocketing unemployment is a major threat to the recovery of the U.S. housing market.  And consumers shackled with record levels of debt are unlikely to ride to the rescue this time.

Since this recession is expected to be long and deep, economists are projecting high rates of unemployment. And the latest statistics released by the U.S. Labor Department show the crucial jobs market deteriorating at an alarmingly rapid pace.

The U.S. unemployment rate jumped to a 14-year high of 6.5% in October as another 240,000 jobs were cut – an uptick from 6.1% in September and the 10th month in a row the jobless rate has risen. Most forecasts are calling for unemployment to spike as high as 8.5%, which would be the worst showing since 1980.

So far this year, a staggering 1.2 million jobs have disappeared. More than half the decrease occurred in the past three months alone, Money Morning reported in its “Outlook 2009” series economic forecast story. Even worse: A year ago, job cuts were concentrated in the financial-services and homebuilding sectors. Now they’re rising across the board; virtually every part of the economy is feeling the squeeze.

For instance:

• U.S. automaker Chrysler Corp., one of Detroit’s wheezing “Big Three,” is laying off 25% of its white-collar work force of 18,500.
• Appliance maker Whirlpool Corp. (WHR) recently announced it would cut 5,000 jobs to cope with declining sales.
• Worldwide shipping giant DHL, a subsidiary of Deutsche Post AG, is laying off 9,500 people, and threatening to close its U.S. distribution center.
• Onetime Internet search giant Yahoo! Inc. (YHOO) plans to let 1,100 workers go – on top of the 1,000 already jettisoned in January – the result of several botched merger attempts.
• Ailing banking giant Citigroup Inc. (C) heaped more bad news on the financial sector, announcing whopping 50,000 layoffs in the next 12 months.

Layoffs of this magnitude are more than a mere shot across the bow of the housing market – they’re actually a direct hit amid ship. People who are unemployed cannot buy homes. Period. But even consumers who are afraid that they might be joining the jobless ranks are loath to take on the added risk – making them unlikely candidates to buy a new home.

Foreclosures Still Rising

As unemployment climbs, foreclosures will continue to multiply. That only exacerbates an already unappealing combination – more houses being dumped onto the market even as the pool of potential buyers grows increasingly smaller.

RealtyTrac Inc. reported that more than 81,000 homes were foreclosed on in September – 71% increase from the same period just a year ago. For 2008, foreclosures rose to a record 765,558.

“I wouldn’t be surprised to see foreclosures increase as the economy slows down,” said Rick Sharga, RealtyTrac’s vice president of marketing. “The people living paycheck to paycheck are at risk if they lose their jobs. It will cause more people to lose their homes.”

And while foreclosure volumes are outpacing projections, the cumulative losses by banks on bad mortgages may have yet to hit their books.  Since loan losses don’t get recorded until the property is sold, it’s likely there’s a lot of bank-owned inventory that hasn’t been unloaded – meaning there may be more foreclosures out there investors don’t yet know about.

“We are in uncharted waters,” said Brian Bethune, an economist at research firm Global Insight (IHS).

Making the waters even rougher was the decision by Standard & Poor’s Inc. (MHP) to cut the ratings on $34.1 billion of “Alt-A” residential loan packages that had been issued in 2006 and 2007.  Alt-A mortgages are those written with little or no documentation, i.e., without proof of income or assets. Even worse, S&P put an additional $351.7 billion of Alt-A securities up for possible review reflecting the rating company’s “belief that further declines in home sales will depress prices further and push loss severities higher than we had previously assumed.”

On top of all that, record numbers of borrowers are already “underwater,” or “upside down” on their mortgages, making it more attractive for them to default by simply walking away, than to hang around and drown.

About 18% of homes nationwide are now “upside down,” according to a report from First American CoreLogic.  Almost two-thirds of those homes are in just seven states: Arizona, California, Florida, Georgia, Michigan, Nevada and Ohio. In Mountain House, Calif., an unincorporated planned housing community located in the foothills of the Diablo mountain range, the housing crisis right now has nearly 90% of the homeowners owing more on their houses than they are worth – the highest percentage in the country, The New York Times reported on Nov. 10. The average homeowner is underwater by $122,000, the newspaper said.

Other areas are suffering almost as much: In Nevada, alone, borrowers owed a whopping 89% of the value of their homes.

Despite such dramatic anecdotes, this housing slump is nationwide in nature. It’s more severe than any other such downturn since World War II, mostly because of the risky lending practices that inflated the real-estate bubble in the first place.

The Downdraft in Housing Prices

Meanwhile, while unemployment rises, the downward spiral in housing prices is gaining momentum.

“The No.1 thing that drives housing values is incomes,” said Todd Sinai, an associate professor of real estate at the Wharton School at the University of Pennsylvania. “When incomes fall, demand for housing falls.”

The S&P/Case-Shiller Index of home prices plunged 16.6% in August from the year before, following a 16.3% drop in July. The index has fallen every month since January 2007 (See accompanying chart, “Plummeting Prices.”).

Prices were lower in all 20 of the major cities the index covers, with Phoenix and Las Vegas down nearly 31% from last year.

Nationwide home prices have fallen 20.3% since peaking in June 2006.

And the skid isn’t over.

According to Fitch Ratings Inc., U.S. home prices will fall another 8% to 10% before they show signs of stabilizing.  According to a Fitch forecast, the peak-to-trough price decline will be 30%.
And still one other reliable indicator of housing prices seems to confirm that, in many cities, home prices still have further to fall.

According to analysis by Moody’s Investors Service (MCO), Miami houses are right now priced at about 22 times annual rental income – versus an average of just 15 over the past two decades. This suggests that a home currently priced at $350,000 is actually worth only $238,600 – meaning the price would have to drop 32% to reach the fair-value point.

Congressional Missteps

In an effort to help more than 400,000 homeowners avoid foreclosure, Congress came up with the “Hope for Homeowners” program.  Unfortunately, in their infinite wisdom, federal lawmakers designed a program that is almost certain to fail.

The program supposedly makes as much as $300 billion available to at-risk borrowers, enabling them to refinance into a 30-year, fixed-rate loan insured by the Federal Housing Administration (FHA).

The biggest mistake Congress made was to make this program strictly voluntary for participating banks, experts say.

Just as bad: In an effort to make the program more affordable for beleaguered homeowners, it also requires the lenders to write the value of the home down to 90% of its current market value. So in a downtrodden market like Phoenix, if a lender holds a $400,000 mortgage on a home currently appraised at $300,000, the bank would have to settle for a new mortgage worth only $270,000.

Needless to say, the response has been underwhelming.  After four weeks, a whopping 79 people had applied for the program.

Not to be deterred, the Federal Deposit Insurance Corp. (FDIC) is proposing another package, which would extend the terms of at-risk loans from 30 years to 40 years, with interest rates as low as 3.0%.  Housing payments for delinquent borrowers could not exceed 38% of gross monthly income.

In order to sweeten the pot for lenders, the government would share as much as 50% of the losses if a borrower ended up in default anyway.  In addition, the FDIC would pay servicers who process these new mortgages a fee of $1,000 for each re-worked loan.

FDIC officials estimate that this anti-foreclosure program would cost $24.4 billion, and would prevent 1.5 million of the 2.2 million at-risk homes from falling into foreclosure.

But that also means the taxpayer will be on the hook for half the value of 700,000 mortgages that do fail.

Can you say “fuzzy math?”

Homebuilders on the Ropes

You can probably guess where this leaves the nation’s homebuilders – gasping for air.

D.R. Horton Inc. (DHI), one of the nation’s biggest homebuilders, just wrote down $1.1 billion in land, deposits and inventory in the third quarter, as sales fell by half. The Ft. Worth, Tex.-based company expects to post a fourth-quarter net loss of between $800 million and $900 million, 18 times more than it lost in the fourth quarter a year ago.

Other builders are in similar shape. Pulte Homes Inc. (PHM) and The Ryland Group Inc. (RYL) just reported quarterly losses of $280.4 million and $65.7 million, respectively.

Even Toll Bros. Inc. (TOL), which caters to the high-end buyer, said fourth-quarter revenue fell 41% from the same period last year.

The Forecast for 2009: More Pain Before Any Gain

No matter what happens in the U.S. housing market, until a large inventory reduction takes place, housing prices will not stabilize.

In a recent Forbes magazine column, A. Gary Shilling, president of an economic consulting firm of the same name, said the worst is yet to come. Says Schilling: “Excess inventory, the mortal enemy of prices, now amounts to 1.8 million homes, which is a huge number relative to the net demand (new families minus departures due to deaths and moves to nursing homes) which is only 1.5 million a year.”

And one of the architects of the U.S. housing debacle – former U.S. Federal Reserve Chairman Alan Greenspan – is also downbeat: “At a minimum, stabilization of home prices is still many months in the future,” Greenspan said in an October speech.

The question that needs to be answered, then, is this: In the current atmosphere, does anyone believe we actually need homebuilders to add even one new home to the market?

Some pundits claim this may be a golden opportunity to short U.S. homebuilders. Even though they’re already down 80% from their highs, the deadly combination of skyrocketing unemployment, deflating prices and tight credit continue to spell further pain for the industry.

Short sellers would obviously look at any of the companies mentioned above. They might also consider iShares US Home Construction (ITB), the prominent exchange traded fund (ETF) for the group. However, any such move would have to be made with extreme caution.

The reason: All bets are off if the new Barack Obama Administration implements a moratorium on mortgage foreclosures. There’s also the possibility that Obama will be able to shepherd through any one or more of the proposed mortgage guarantee programs now on the table.

Those kinds of moves could provide a boost to homebuilders and leave short sellers in the grips of an uncomfortable squeeze – just like the millions of homeowners saddled with mortgages they can no longer pay.

Source: New Year U.S. Housing Market Forecast: No Gain, More Pain

• U.S. job cuts and slashed stateside budgets have forced express mailer DHL Express, a subsidiary of Deutsche Post AG, from the U.S. Market, Reuters reported. With the move, Deutsche Post AG cut 9,500 jobs (on top of 5,400 from earlier this year). It was also an early Christmas present for rivals United Parcel Service Inc. (UPS) and FedEx Corp. (FDX), who’ve also taken their lumps from the slumping U.S. economy.

• Shares moved higher for China infrastructure titans – China Railway Group and Angang Steel Co. – who are widely believed to be beneficiaries of the government’s $586 billion economic stimulus package. Much of that package will go to housing and the expansion of railways, roads and airports, Bloomberg reported.

• Google Inc.’s (GOOG) YouTube inked a deal with Metro-Goldwyn-Mayer Inc. to show full-length television shows and movies, Reuters reported. The move is a bid to up advertising revenue – something Google is exceptionally good at doing – but also take a swipe from Hulu.com, a web site that airs full-length shows with limited commercial interruption.

• McDonald’s Corp. (MCD) posted strong October same-store sales, with much credit going to the fast-food provider’s global expansion. Same store sales in the U.S. rose 5.3%. In Europe, that figure is 9.8%. In Asia-Pacific, Middle East and Africa, that figure is 11.5%, MarketWatch reported.

• Shares of General Motors Corp. (GM) plunged more than 25% yesterday (Monday) after Deutsche Bank AG (DB) analyst Rod Lache said the company’s stock could hit zero within a year. “Even if GM succeeds in averting a bankruptcy, we believe that the company’s future path is likely to be bankruptcy-like,” Lache said in a note to clients.

• Fannie Mae (FNM) yesterday (Monday) posted a $29 billion third-quarter loss, mainly because of a $21.4 billion non-cash charge to reduce the value of tax assets. The mortgage finance company, seized by federal regulators in August, warned that it might have to tap the government’s $100 billion lifeline.

• Starbucks Corp. (SBUX) said yesterday (Monday) that profit dropped 97% in its fiscal fourth quarter. The company reported profit $5.4 million, or a penny a share, down from $158.5 million, or 21 cents per share, a year ago. Revenue rose 3% to $2.52 billion.

• U.S. cotton production is expected to drop to 13.5 million bales this year, down nearly a third from last year, The Associated Press reported. Farmers planted fewer acres of cotton and shifted to higher-priced crops when prices for corn, rice, and soybeans hit record highs this summer. Hurricanes Gustav and Ike also crimped production.

Source: Global Investing Roundups, Tuesday, November 11th, 2008