Is the U.S. headed for another housing bubble crash? With home prices at all-time highs and concern that the labor market will break going into a recessionary period, is another 2008-style crash a possibility? The answer is no, and for that, we must thank the 2010 qualified mortgage (QM) rule, which has high standards for borrower credit scores and the ability to repay the loan.
With the QM rule and a return to traditional housing credit channels, we can’t have a massive credit boom in housing — but that also means we can’t have the same sort of credit bust we had in 2008, because we have the best homeowners on record ever. And I’m not even talking about the over 40% of homes that don’t have a mortgage; I am just talking about homeowners who are paying a mortgage.
After the recent Fed quarterly credit data and all the drama we have had post-2020, it’s time to do the quarterly review of where we are in the housing credit cycle.
Foreclosures and bankruptcy data
One of the most prominent credit stress data lines I have ever seen came during 2005-2008. Starting in 2005, four years before the Great Recession started, we saw significant credit stress built up in the system, all while the economy was expanding. As we can see in the chart below, 2005-2008 was awful, but from 2010-2023, the credit data looks awesome compared to the housing bubble crash years.
How did this happen? We started originating traditional, boring 30-year fixed-rate mortgage loans with guidelines that ensured borrowers were qualified. So the risk we face now isn’t with the mortgage loan itself like in the past — the risk is where we are in the economic cycle and people losing their jobs.
Currently, jobless claims are still low and nowhere close to the level I believe is needed to break the labor market, which would be 323,000 on a four-week moving average. So, for now, any major foreclosure risk is minimal. I talked about this six months ago on the HousingWire Daily podcast, where I outlined why the fear of 2008 housing credit risk was misplaced.
Another important data line is the FICO score data, as you can see below. Doesn’t it look beautiful?
What happened here? Simple: positive cash flow homebuyers typically buy homes when credit channels are standard. The days of the low-FICO homebuyer returning to the housing market have ended, as I discussed in 2018. This protects the housing market from another crash in home prices like we saw in 2008.
Another point about FICO scores: people think that FICO scores were inflated after 2020. However, the reality is that the FICO score data has stayed the same since 2010; we just originated a lot of loans during the pandemic, both purchases and refinances, and those loan borrowers had excellent credit. So when the volume went up, it looked like the scores were being inflated. That wasn’t the case; we have had the same FICO score trends since 2010, we just did more loans.
Looking at the 30-day late data
Economic cycles come and go with recessions and expansions. The fear now is that the Federal Reserve has overtightened as they have discussed that financial and credit conditions will impact the economy.
This means that the labor market should get softer in 2024. What remains to be seen is whether this will create a job loss recession next year. I don’t believe we should discuss a job loss recession until jobless claims break over 323,000 and we aren’t there yet. However, the history of the Fed overtightening and creating a job loss recession is ample enough to warrant the fear of a recession next year.
We see credit card and auto loan stress as more people fall behind on those loans. Regarding mortgages, we have seen an increase in the 30-day late data coming from historic lows. Over time, we will get back to the pre-COVID-19 level trends, which are still historically low.
Of course, this is always something to keep an eye on. When it comes to foreclosure inventory, I like to remind people that at minimum, from the start of the first 30 days late it can take nine to 18 months before that new foreclosure supply hits the market. So, the clock starts when we have a few months of negative job losses. As we can see in the chart below, we currently only have a little bit happening in the 90-120 days late, which could then turn into the notice of default and start the legal process of foreclosure.
No economic expansion lasts forever and I am always looking for clues on when the economy will officially go into a job loss recession, but we aren’t there yet on the jobless claims data.
One thing is sure: homeowners’ credit profiles look nothing like 2008. The 2008 housing credit backdrop broke four years before the job loss recession started; now, it is stable and healthy. And when we get a job loss recession, we still have a much better foundation with housing than the massive credit boom and bust cycle of 2008, so we won’t see a home price crash as we did then.