Equilibration

Equilibrium is a wonderful concept. To know that conditions will come into balance gives us a sense of stability and reassurance. Whether it is dissolved concentrations on either sides of a membrane (think ‘kidneys’), buoyancy forces acting upon a ship or supply/demand market forces, we are calmed by the knowledge such forces work with little intervention required.

It is this very supply/demand equilibrium which is now beginning to, figuratively, right the housing ship. The supply/demand forces were examined in the July 14 blog and I touched on the financial challenges in the previous post. Today we are going to look in more detail at the financial equilibration taking place.

First, prices have declined. Home prices have dropped in response to the supply of financing available and this has resulted in increased transactions, compared to a base case of no price decline, and reduced supply; i.e., fewer housing starts.

Secondly, private equity is moving to fill the market void created when credit standards were tightened and financing became scarce. On July 15, the Wall Street Journal reported that money managers and REITs are exploring lower rated mortgage securities carrying higher yields. As reported:

Bond issuers, faced with meeting rating firms’ triple-A stringent guidelines or trying to sell bonds with not ratings at all, are considering a middle ground – one that produces profitable deals and could help expand credit that is scarce in today’s housing market.

Thirdly, the rate of housing formations is destined to rise. The Echo generation will drive increased future demand, and that demand may already exist in the pent-up state.

Is there any good news? Yes, equilibration works. Just hang on.