Housing slump could pinch consumer spending

John W. Schoen Senior Producer • Profile • E-mail

One of the many benefits of the now-cooling housing boom — both to consumers and the U.S. economy — was the huge pile of cash extracted in the form of home equity loans and “cash-out” mortgage refinancings. But with home prices flattening, and that multibillion-dollar piggy bank drying up, can consumers continue the shopping spree that accounts for more than two-thirds of the U.S. economy?

So far, consumer spending and confidence seem to be holding up. But the slump in home prices — and the break in what had been a relentless rise in homeowners' equity value — has some analysts voicing concerns that the end of the housing boom could also spell the end of the extended consumer shopping spree that has been a mainstay of the U.S. economy. Retailers, many of whom have already locked in plans for the holiday shopping season, are keeping a close eye on the numbers.

Since 2000, when “irrational exuberance” finally sank the stock market, U.S. consumer and investors have turned to real estate for outsized returns. But unlike the paper profits they accumulated in the stock market — gains that went to Money Heaven when the market tanked — homeowners have been converting those rising home prices into cash.

“We have seen consumers use their homes as ATM machines,” said John Marcell Jr., a mortgage broker in Upland, Calif. “Whenever they get their credit card debt up high, they go ahead and refinance and bail themselves out. That’s well and good as long as you have a rising market. But when that rising market no longer rises, you have some real issues.”

The home-equity ATM machine in question is huge. At the end of last year, the total value of U.S. residential real estate stood at $21.5 trillion, according to Standard & Poor’s. That compares with $16.9 trillion held in U.S. stocks and $25.3 trillion held in fixed-income assets like bonds.

Homeowners have not been shy about tapping into that equity through refinancing — to the tune of more than $250 billion this year, according to the latest forecast from Freddie Mac, the government-chartered housing finance corporation. The same forecast sees cash-out refinancings falling sharply next year — to $152 billion — and again to $108 billion in 2008. By way of comparison, it took homeowners eight years to cash out $187 billion in home equity from the end of 1992 through 2000.

Just as the rise in readily available home equity has begun leveling off, adjustable mortgage rates are also beginning to take their toll. Many of those adjustables have two-, three- or five-year fixed rates that are now expiring.

“There’s a payment shock that some of these people are just being devastated with,” said Marcell. “A payment that was $1,500 is now $2,500. And that’s the impact that we’re concerned with. A lot of these people were not told what could happen when the adjustment periods come about.”

The same rate shock is hitting consumers who took out home equity lines of credit — or HELOCs — to take advantage of the low rates brought about by the Fed’s aggressive rate cutting after the stock market’s collapse. Until June 2004, the prime rate to which these loans are usually pegged was at 4 percent. Now the prime rate is at 8.25 percent, meaning sharply higher interest rate charges for home equity borrowers. Some of those homeowners with now-pricey HELOCs are going back to refinance once again — folding their credit line into a new primary mortgage and tapping any remaining equity to keep a lid on monthly payments.

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