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Gold-Rush F ever
Gold-rush fever is again sweeping
California. The early Californians
struck gold, later arrivals struck
oil-and now, as many times in the
past, Californians are striking pay
dirt in the real-estate field. The
dimensions of the housing boom
can be measured by the rapid sales
(and resales)of single-family homes
in Orange County, San Diego, the
San Francisco Bay Area and other
California locations.
The frenzied search for singlefamily homes reflects a mounting
demand/supply imbalance, but it
has been aggravated by inflation
fears and speculative pressures. The
boom has been fueled by ample
mortgage financing, primarily from
savings-and-Ioan associations, but
now increasingly from commercial
banks as well. (One feature of the
boom has been a rebirth of the
second mortgage, which is utilized
by many households as a cheap
form of consumer loan.) Needless
to add, lenders and regulators are
now taking steps to rein in the
speculative fever.
Just as there were physical dangers
in the search for gold, there are
financial dangers inherent in the
current home rush. In the areas of
strongest demand, home prices
have risen 50 to 75 percent in a twoyear period. This rapid escalation in
the housing price tag has activated
speculative buying, adding further
demand pressure in an already tight
supply situation.
The banks' role
First, how large is the market? California banks and savings-and-Ioan
associations held $71 billion in outstanding residential mortgages at
the end of 1976.Banksonly account
for about one-sixth of the total
market, but they playa pivotal role
because they can move in and out
of the mortgage market, depending
on the relative attractiveness of the
lending alternatives open to them.
In the last California housing cycle,
banks played the decisive role. Indeed, in 1973 they became virtual
lenders of last resort, as severe disintermediation effectively removed
S&L's from the market. (Net savings
inflows into California S&L's, exclusive of credited interest, dropped
from $4.1 billion in 1972 to $475
million in 1973-and an outflow of
$349 million then occurred in 1974.)
Altogether, banks' residential mortgage portfolios rose 80 percent between 1971 and 1974. But by mid1974, banks also became reluctant
lenders, as many withdrew from the
market entirely and others restricted home loans to their own customers. The inroads of inflation and
recession, along with tight credit,
also dampened the ardor of home
seekers. While private housing permits dropped from the 1972 peak of
278,000to 128,000in 1974, inventories of unsold units mounted.
Another housing cyde
The turnaround began around the
second quarter of 1975. By then,
(continued on page 2)
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Opinions expressed in this newsletter do not
necessarily reflect the views of the management of the
Federal Reserve Bank of San Francisco, nor of the Board
of Governors
of the Federal Reserve System.
excess inventories of housing had
been worked off, and in some areas
actual shortages had developed,
reflecting several years of sharply
reduced construction activity.
Meanwhile, an increase in the size
of the young home-buying generation (including an increase in the
number of immigrants) plus the
improved state of the economy
created a growing demand for
housing, particularly single-family
homes. Construction activity
turned around, helped along by an
increase in lending by S&L's, which
were now awash with funds from a
record savings inflow. In 1975,S&L's
added $5 billion to their outstanding mortgages, representing a 12percent increase.
Banks, however, at first showed
little interest in participating in the
reviving market. In 1975 they actually recorded a $1-billion (8 percent) reduction in their residential
mortgage portfolio, and they did
not actively reenter the mortgage
market until the second quarter of
1976. By then they were experiencing record inflows of savings
deposits-the type of funds they
normally allocate to housing.
Moreover, there were few alternatives for lending, especially with no
sign of a revival in business-loan
demand. Yet for 1976 as a whole,
banks increased their investment in
residential mortgages by only 4 percent, compared with the S&L's
sharp 19-percent increase.
Current scenario
The boom then took hold in full
force in the first quarter of this year.
2
S&L mortgage holdings continued
to rise at last year's torrid pace
during the first quarter of this
year-and in March increased at a
23-percent annual rate. S&L loan
commitments in March reached a
record $4.2 billion-up 40 percent
over the end-1 976 level and well
over twice the volume at the height
of the previous (1972)housing
peak. Bank mortgage lending meanwhile rose at a 14-percent annual
rate in the January-March period,
and some major banks added mortgages at rates of over 20 percent.
These sharp increases reflected not
only the increased physical volume
of housing but also the escalating
cost of shelter. For banks, the figures somewhat overstated the
amount of funds actually used for
home financing, considering the
growing amount of loans secured
by residentia'l property but utilized
for other consumer purposes.
Most major California banks are
now actively promoting second
mortgages, in the form of "home
equity" or "homeowners" loans.
Typically, each loan is secured by a
second-trust deed, and is available
up to a maximum of $25,000,or 80
percent of the current appraised
value of a home less the outstanding first mortgage. Maturities range
from 5 to 25 years, bear a simple
rate of 12 percent, and carry no
prepayment penalty. Few, if any,
restrictions are imposed on the borrower's use of the loan proceeds.
Bank advertisements read: "take a
trip around the world; buy a car;
buy a second home or a piece of
real estate." Present regu lations
permit both national and state-
chartered banks to undertake this
type of financing.
The rebirth of the second mortgage
reflects the resurgence of inflation,
because this type of financing permits an existing homeowner to
benefit from the appreciated value
of the equity in his home without
sale of the property. In addition,
the availability of this type of credit
may encourage prospective homeoccupant buyers to take the plunge
into home ownership despite the
high price tag-particularly so in
the case of younger buyers without
other equity sources to draw on for
meeting future borrowing needs.
But in the current period of rapidly
rising home prices, equity loans
may also swell the ranks of speculators, as funds from these secondtrust deeds are used to buy residential property in expectation of a
quick inflation-based profit.
Beginnings of caution
Bank and S&L mortgage funds still
appear ample, but problems could
develop unless lenders adopt more
cautious attitudes. In the areas of
strongest housing demand, speculative buying of residential units has
reached a sufficient volumeperhaps 10 to 20 percent of the
total-to affect prices significantly.
Lenders and regulators have become concerned about the escalation effect which, down the line,
could result in equity lossesif measures are not adopted to dampen
the spread of home investment for
quick profit.
Some precautionary measures have
now been adopted to slow the
3
torrid lending pace and discourage
the speculative buyer. In late April,
the San Francisco Home Loan Bank
increased its lending rate to member associations by one percentage
point on both short- and long-term
advances, because of {(serious concern about the escalation of home
prices and housing speculation" as
well as the escalating volume of
lending. Many savings-and-Ioan associations have increased standard
mortgage rates to 91A percent from
9 percent, and one major bank has
increased its prime mortgage rate
to 9 percent from 8% percent. Some
S&L's are charging a {{penalty" rate
of 1A to V2percent, or an extra fee or
higher down payment, on mortgages where the borrower will not
be an occupant of the housing unit
financed. A few banks also are
charging an interest-rate premium
on such loans, and one institution
will not extend credit unless the
potential borrower declares that he
will occupy the home for a twoyear period.
The financial community's increased awareness of the problems
inherent in a continuation of the
current home rush, as well as its
willingness to take measures to discourage speculative activity, should
moderate somewhat the frenzied
bidding for new housing units.
With speculative activity removed,
market participants should have a
better fix on the size of basic home
demand at given levels of prices. A
more cautious financing approach
thus should prevent future equity
losses for home owners-and future problem situations for lenders.
Ruth Wilson
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BANKING DATA-TWELFTH FEDERALRESERVE
DISTRICT
(Dollar amountsin millions)
Selected Assetsand liabilities
large Commercial Banks
Loans(gross,adjusted)and investments*
Loans(gross,adjusted)-total
Securityloans
Commercialand industrial
Realestate
Consumerinstalment
U.S.Treasurysecurities
Other securities
Deposits(lesscashitems)-total*
Demanddeposits(adjusted)
U.S.Government deposits
Time deposits-total*
Statesand political subdivisions
Savingsdeposits
Other time deposits*
Largenegotiable CD's
Weekly Averages
of Daily Figures
Member Bank ReservePosition
ExcessReserves(+)/Deficiency (-)
Borrowings
Net free(+)/Net borrowed (-)
Federal Funds-Seven large Banks
Interbank Federalfund transactions
Net purchases(+)/Net sales(-)
Transactionswith U.S.security dealers
Net loans (+)/Net borrowings (-)
Amount
Outstanding
4/27177
Change
from
4120177
-
95,112
72,749
1,567
23,629
22,646
12,767
9,055
13,308
95,703
27,731
839
65A32
5,646
31,978
25,769
9,158
+
-
+
+
+
-
+
+
+
+
+
-
Week ended
4127177
+
+
319
155
27
85
96
85
354
120
373
188
338
5
137
52
149
232 .
+ 8.88
+ 11.18
+ 44.29
+ 6.71
+ 13.86
+ 15.87
- 4.23
+ 6.80
+ 9.89
+ 18.21
+ 36.64
+ 6.41
- 18.34
+ 23.28
2.20
- 19.21
+ 7,761
+ 7)14
.+
481
+ 1A86
+ 2)56
+ 1)49
- 400
+ 847
+ 8,616
+ 4,272
+ 225
+ 3,940
- 1)68
+ 6,038
- 580
- 2,177
Week ended
4120177
18
11
7
- 1,094
Changefrom
year ago
Dollar
Percent
Comparable
year-agoperiod
27
7
34
45
0
45
+
142
+ 283
+ 179
*Includes items not shown separately.*Individuals, partnershipsand corporations.
+
352
+
136
Editorial comments may be addressedto the editor (William Burke) or to the author••. .
Information on this and other publications can be obtained by calling or writing the Public
Information Section, Federal Reserve Bank of San Francisco, P.O. Box 7702, San Francisco94120.
Phone (415) 544-2184.
@FedFRASER