ISM Nonmanufacturing Index Sustained Improvement

The total number of mortgage applications rose for the second consecutive period. The 7.2% increase last week limited the average decline during March to 1.0% after a 6.3% drop during February.

Purchase applications jumped 8.4% at month end and the average level during March ticked up 0.2% after a 10.2% decline during February.

During the last ten years there has been a 54% correlation between the y/y change in purchase applications and the change in new plus existing single family home sales.

Applications to refinance also recovered with a 5.3% increase last week though the average March level fell 2.4% m/m after a 2.0% February drop.

The effective interest rate on a conventional 30-year mortgage rose sharply. The sixteen basis point increase w/w lifted the effective rate to 6.72% and the rate on 15-year financing likewise surged to 6.43%, its highest since June 2002. Interest rates on 15 and 30 year mortgages are closely correlated (>90%) with the rate on 10 year Treasury securities and during the last ten years there has been a (negative) 82% correlation between purchase applications and the effective rate on a 30-Year mortgage.

The Mortgage Bankers Association surveys between 20 to 35 of the top lenders in the U.S. housing industry to derive its refinance, purchase and market indexes. The weekly survey accounts for more than 40% of all applications processed each week by mortgage lenders. Visit the Mortgage Bankers Association site here.

A New Perspective on Policy, yesterday's speech by Dallas Federal Reserve Bank President & CEO Richard W. Fisher, is available here.

Commercial real estate has increased significantly in importance as an investment medium in recent years. Securitization of commercial mortgage securities and direct interests in portfolios of properties join residential real estate as outlets for capital. But it is complicated to assess the returns on such investments. Each property is sizable and very different from every other property. So, unlike other objects to be priced, there are not simple rules-of-thumb or statistical properties that can be exploited to derive valuations.

Just in mid-February, the Massachusetts Institute of Technology's Center for Real Estate introduced a helpful tool in this process, the Transactions-Based Index. A client brought these new quarterly series to Haver's attention, and they were added to our basic USECON product about two weeks ago.

The Total Return Index shows that commercial real estate holdings earned 34.3% in 2005, following valuation gains of 16.0% in 2004 and 10.0% in 2003. Returns based on price change alone were 29.4% last year, 10.7% in 2004 and 4.2% in 2003.

These figures are weighted indexes for "All Properties", including apartments, industrial buildings, offices and retail centers. Sub-indexes are available for each one of these segments. Retail properties were the strongest in 2005, with a 40.2% total return, while industrial buildings earned "only" 24.2%.

The secret to these indexes is a proprietary database maintained by the National Council of Real Estate Investment Fiduciaries (NCREIF). This group is a trade association of pension funds managers; they collectively own some $200 billion worth of commercial properties numbering about 5,000. Data on pricing and income is taken from actual transactions involving these properties.

Further, since the properties are all distinct, the "average" value of transactions cannot by obtained by simply toting up individual prices and dividing by some appropriate number. The indexes are compiled by appeal to the same kind of weighted "hedonic", quality-adjusting econometric techniques used by BEA and BLS for constructing many of the price indexes used by economists every day. The NCREIF database has been maintained for many years, allowing the MIT econometricians to construct 22 years of history for the "All Property" index and 12 years for the individual property types. A press release and more detailed description of the data are found here on the website of the MIT Center for Real Estate.