THE ROLE OF HOUSING IN FOREX PRICE MOVEMENTS

Fundamentally, however, one of the most important categories of economic data around the world, which is sensitive to interest rate changes, is housing data. The housing sector in the United States, as well as other nations, provides a major share of wealth, consumer spending, and job creation. Recent years have seen an international housing boom, with prices growing at more than 10 percent per year in many countries. For example, Ireland grew at 15 percent in 2006; Spain’s growth actually slowed down to 13 percent. Canada, Norway, and Sweden shared more than 10 percent growth. The United States, in the face of a slowdown, saw prices up 7 percent. This means that the value of homes around the world has doubled in the past 10 years, and as a result the increased wealth has fueled economic growth and consumer purchase.

Closely watched are data releases that relate to housing activity. Some of the main data releases track:

·         The level of unsold homes

·         Mortgage loan applications

·         New and existing home sales

·         Single-family housing permits

·         Housing prices

Forex traders’ expectations of the future direction of interest rates are significantly

affected by housing data because, for example, weak housing leads to expectations of a slowdown on consumption. The economic reasoning is that consumers start seeing a decline in housing values and restrain their consumer spending. One of the most important factors related to housing market strength in recent years has been mortgage equity withdrawals (MEWs). As home prices have increased around the world, consumers take out loans against their mortgages, which stimulates consumption. During periods of housing booms, MEWs rise. MEWs have been, in fact, calculated to contribute to the growth of gross domestic product (GDP). Figure 1.2 shows that MEWs have reached nearly 6 percent of U.S. GDP. However, if MEWs slow down, this can portend a decline in consumption and a slowdown in the economy. If and when a slowdown in MEWs occurs, central bankers view it as lessening the likelihood of an interest rate increase. Damon Darlin wrote in the New York Times (“YOUR MONEY; Mortgage Lesson No. 1: Home Is Not a Piggy Bank,” November 4, 2006):

Economists argue over what effect the access to money, which mortgage equity

withdrawals allow, has had on consumer spending. Homeowners cash out to pay

off more expensive credit card debt, remodel the house to build more equity, or just

have fun. They may very well have used it to buy another house or not spent it at

all, but added it to savings. Economists really are not certain.

“I guess it is one of those mysteries,” said Christopher D. Carroll, an economics

professor at Johns Hopkins University. “I don’t think anyone knows what

the answer is.”

Nevertheless, mortgage equity withdrawal is closely watched as an indicator

of the general economy because, Mr. Carroll said, “there is a lot of concern

that a cooling housing market could result in a sharp fallback in consumer

spending.”

A recent paper that Mr. Carroll helped write contends that for every $1,000

change in housing wealth there is an immediate propensity to consume about $20

more. The wealth effect, as the phenomenon is called, is twice as high for housing

wealth as it is for stock wealth, Mr. Carroll and his associates said.

At the end of 2006, the data on MEWs showed a large decline from the year before in the United States. This was an early indicator of a slowdown in the U.S. economy because it is estimated that two-thirds of the money from MEWs goes for consumption. So the forex trader seeing signs of an MEW slowdown can get ready for its effect to take place months in advance.

The importance of housing data as a factor in shaping currency moves has been

highlighted further by the events relating to subprime mortgages in the United States.

These mortgages were issued during the housing boom/bubble, without the traditional

credit requirements. Economic forces ultimately worked to create mortgage delinquencies and a collapse in this market. For the forex trader it is a clear case where fundamentals affect the dollar. More housing weakness translates to weaker consumer demand and that translates to lowering the probability of interest rate increases. It’s difficult to be bullish on the dollar in this environment. However, if the housing market starts recovering, the pressures to increase interest rates (or not decrease them) will help attract dollar buyers.