I Love Numbers BUT The Truth May Not Be In The Headline

Just spent the past hour getting caught up with all the economic data hitting the market over the past few hours. Attention is clearly on the Obama "save the homeowner" plan but I wanted to discuss the headline 46% surge in Mortgage Applications.

On the surface this is an impressive number. The "CNBC talking heads" get all fired up that is a sign that the economy is starting to bottom and that the supply of homes on the market is going to get sopped up, prices will stop declining and that banks will survive (assuming defaults stop). Okay so lets scratch the surface a little deeper.

First of all about 75% of the increase in Mortgage Applications was due to refinancing. This is solely a function of government purchases at the long end of the bond curve to bring yields down. This has worked as 30 year fixed rates dropped below 5% last week. When people are unsure about the future then tend to reduce risk. This is one way to do this. Fixing your payment for 30 years under 5% is compelling. To me this has nothing to do with reducing the supply of homes in the system (like the headline would like you to believe). On a side note in the past decade refinancing activity increasing has usually led to increased spending. I don't believe it will be the case this time. As personal net worth erodes (via house values and portfolios) consumers are forced to retrench. If we overlay this statement with low savings rates, high household debt burdens and rising unemployment it paints a very different picture. It is the reason why the saving due to lower gas prices over the past 8 months hasn't been spent and retail sales are dismal and getting worse.

The truth is in the trend. Actual purchase applications rose about 9% week over week but this follows steep declines the previous 2 weeks of 10% and 11% respectively. Lets do some quick simple math (my CFA designation allows me to do this). If we do a quick purchase application index it would look something close to this. If we start the index at 100 and reduce the 1st week by 10% it is at 90 now. Take another 11% off the index for week 2 now we are at 80.1. This doesn't look very healthy to me. Remember the headline about a 46% increase in Mortgage Apps. Well in reality is was only a 9% increase in purchase apps so this make the index now 87.3. Reality is that purchase appls are down 12.7% in just 3 weeks (100 - 87.3).

The above math gives a very different outlook than the headline. In fact YoY activity is off 28%. Now ask yourself how is this taking supply away. Truth is it isn't. When we look at the "real trend" in conjunction with, unemployment (the US has lost about 2 million jobs in just 3 months), New Home Sales and Housing Start data it is even worse. This in no way should be viewed as a positive data point.

What should be talked about (and it is by a few such as Roubini, Rosenberg, Krugman, Case) is that bubbles create overcapacity. The US built roughly 2 million too many homes over the past 6 years. In order to work though this overcapacity prices will continue to fall. Truth is I have no idea how far ... no one does. All we do know is that overcapacity is deflationary and time is the only cure. Don't bet on the consumer (via the baby boomers) to come to the rescue this time! Rallies are still to be sold.