Recently, I was sucked into a conversation around the water cooler about home affordability and the impact on the real estate market. The primary topic of the conversation was that home ownership was more affordable than in years past and that first time home buyers would flood back to the market.
When I asked how does one calculate home affordability, no one really had an answer. One individual did mention that they heard something on the news about the National Association of Realtors (NAR) realeasing a Housing Affordability Index.
I wanted to get the facts behind the published report; therefore, I visited the resource section of Realtor.org and browsed the reports. NAR definitely has a tremendous amount of data to analyze through its members and is highly motivated to keep their organization relevant.
At first glance, the numbers were impressive. The Housing Affordability Index reached an all time-high in January 2009 with a reading of 172.6. When we talk about all time-high, this means since the inception of the index in 1971. For comparison, the index was 107.6 at the peak of home values in 2006.
Could this be true? How could home ownership be more affordable now in the worse recession since the Great Depression than any other time in the history of the index? How could it be more affordable considering all the additional costs as a result of credit risk-based pricing coupled with higher agency delivery fees due to declining markets?
Lets evaluate the methodology of the index for existing single-family homes:
- Score of 100: median income is sufficient to qualify for mortgage on median-priced home.
- Score > 100: median income is more than enough to qualify for mortgage on median-priced home.
- January's Value 172.6 means that the median income family has 172.6% of the income necessary required to qualify for the median-priced home.
- Mortgage qualifications assume 20% down & 25% housing payment (principle & interest) to total debt ratio.
Now it made sense. One thing that everyone can agree on is the fact that home values have fallen off a cliff in the past 18-36 months. In matter of fact, home values have fallen faster than income levels. As of the most recent Housing Affordability Index, the median-priced home in January was $164,200 compared to $221,900 at the peak of home values in 2006.
The other issue that I have with the methodology is the big assumption that housing affordability is based on families that have a 20% down payment...essentially, straight conventional loans only. The last time I checked, FHA insured loans (3.5% minimum down payment) had the highest percentage of year-over-year growth in loan applications due to the stricter guidelines being mandated by Fannie Mae, Freddie Mac and the Federal Housing Finance Agency.
Don't get me wrong folks. I am not a pessimist. I want to be bullish on the housing market.
By the way, I truly believe that home ownership is more affordable than I have ever seen in my lifetime; nonetheless, I still question the merits of NAR's index.
How legitimate is the NAR Housing Affordability Index? Does anyone care?