The First Signs of Trouble in Housing
New fears of 'contagion'... Are we on the verge of another emerging market crisis?... Ten-year highs for inflation... The first signs of trouble in housing... 'We are seeing a significant change'...
Last week, the markets finally 'woke up' to the problems in Turkey...
The country's currency – the lira – has been falling for months. Through last Thursday, it had plunged a massive 32% versus the dollar this year... a huge move for even an emerging currency. And yet, global markets had largely shrugged it off.
Until Friday, that is.
The lira plunged another 15% to close the week, bringing its year-to-date loss to nearly 45%. And markets began to worry.
Turkey's problems are complicated, but familiar...
Like other emerging market crises of the past, this one is largely due to excessive borrowing and foolish government policies. As financial-news network CNBC reported this morning...
Turkey has in recent years been one of the fastest-growing economies in the world, even outperforming economic giants China and India last year. In the second quarter of 2018, the country reported 7.22% growth in its gross domestic product.
That expansion, however, was fueled by foreign-currency debt, analysts said...
To many analysts, Turkey wouldn't have gotten into the current predicament if its central bank had been left to do its job.
The Turkish economy has been "overheating" with inflation – at 16% in July – way exceeding the central bank's target of 5%. Raising interest rates could have helped to stem such a massive increase in consumer prices... But [Turkish President Recep Tayyip] Erdogan has said he's in favor of lower interest rates to continue driving growth.
All told, Turkey has racked up hundreds of billions in U.S. dollar-denominated debt. This debt must be paid back in dollars, which therefore becomes more and more expensive to service as the lira weakens. This, in turn, has further pushed up the country's borrowing costs as concerns about its economy grow, creating a vicious cycle.
This is clearly bad news for Turkey...
But why should global markets worry?
The answer has to do with the risk of "contagion"... not only to other emerging markets that are heavily dependent on dollar-denominated debt, but also to Europe.
According to the Bank of International Settlements – considered the central bank to the world's central banks – banks in Spain and Italy are particularly exposed to this debt.
If the lira continues to fall, Turkey is likely to default on some or all of these debts. This could lead to a new round of problems in the "weakest links" of the European banking system, and risk pushing the euro back into crisis.
The plunging lira wasn't the only notable news on Friday...
According to the U.S. Labor Department, inflation rose to a 10-year high last month. Its Consumer Price Index ("CPI") increased 2.9% year-over year in July, while its so-called "core CPI" – which excludes food and energy prices – rose 2.4%. The latter is the highest annual rate of consumer price inflation since September 2008, just before the financial crisis began.
As regular readers know, the Federal Reserve prefers to follow a different measure of inflation, known as the core personal consumption expenditures ("PCE"). This measure tends to lag the CPI, but generally moves in the same direction.
The core PCE increased 1.9% year-over-year in June. This is just shy of the Fed's official target of 2%. But given this month's big jump in core CPI, the core PCE likely moved back above 2% in July as well.
In short, barring any unexpected developments in the next few weeks, the Fed remains likely to raise rates once again at its September policy meeting.
Elsewhere in the market, we could now be seeing the first signs of a slowdown in housing...
Last week, online real estate brokerage Redfin (RDFN) reported better-than-expected second-quarter earnings. But it was what the firm's CEO Glenn Kelman said during his post-earnings conference call that raised some eyebrows.
In short, Kelman warned that the company is seeing a notable change in the housing market for the first time in years. From the call...
We are seeing a significant change... It is definitely changing. We're hearing things from our real estate agents that we haven't heard in three years about homebuyers stepping back from high prices.
Reports are now coming in from Washington D.C., Boston, Virginia, and parts of Chicago as well, that homes there are getting harder to sell. For the first time in years, we are getting reports from managers of some markets that homebuyer demand is waning... Real estate agents saying, I put a home on that normally would have sold in a week, and it's still on the market a month later. I expected to get eight competing offers, I got one and it was below the asking price.
More important, according to Kelman, the slowdown doesn't appear to be due merely to a limited number of homes on the market...
What's striking about this change is that it seems to have been driven by dissident demand from homebuyers, not just a low supply of homes for sale. As U.S. home prices have increased faster than wages for 70 straight months, buyers in markets like these have finally had enough, at least for now.
Now, it's far too early to panic...
This may simply be a temporary slowdown rather than the start of a more serious decline.
But it now appears the combination of soaring home prices and rising interest rates could be starting to price folks out of the market for the first time since the boom began nearly eight years ago.
We'll be keeping a close eye on this trend.
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August 13, 2018