Freddie Mac seems to be seeking a little cover in its March 2007 Economic Outlook released late last week. These monthly forecasts always have a theme which the authors tend to torture relentlessly and this month it is the old adage - "In Like a Lion..." News about the housing market is likened to the "proverbial March weather, with each warm breeze followed by an icy blast." The outlook states that most analysts expect things to improve late in the year and buyer traffic in the spring market will provide an important test of the environment. But, hedging its bet, Freddie quotes "even the most cheery forecasters" as warning about two possible storms still on the horizon.

First is what the report calls the burgeoning overstock of unsold homes. While official government figures reported that the inventory of new homes peaked last July and has declined slightly since them, Freddie warns that the number of unsold new homes is likely much higher than the official figures since sales and inventory figures are not revised to reflect cancelled contracts. Vacant existing homes for sale represent another source of hidden inventories and these vacancies soared to record levels last year. Condos are the most affected sector with vacancy rates over 11 percent in buildings with more than 10 units.

This oversupply of houses has, of course, affected house prices, especially in those areas that experienced the biggest boom during the days of the bubble. For example, S&P/Case-Shiller® data shows prices in Boston down 4.5 percent and San Diego down 3.3 percent during the fourth quarter of 2006 versus prices one year earlier. The Freddie Mac Conventional Mortgage Home Price Index, while naming seven states, including California and Nevada, where prices declined in the fourth quarter, points to a 4.9 percent increase nationally.

The second "storm" that may blow away any upcoming recovery is the deteriorating sub-prime mortgage market. Early payment defaults on subprime loans in the first half of 2006 were at more than triple the rate of defaults one year earlier. Even the non-subprime market is showing signs of stress with delinquency rates on mortgages at commercial banks reaching the highest level in four years. Bank regulators have called for stricter underwriting standards and the Federal Reserve's Senior Loan Officer Survey reported that 15 percent of reporting banks were tightening standards on mortgage loans, the highest percentage since the early 1990s.

Still, there is no sign of a credit crunch in the prime mortgage market. Rates continue to be low and the GSEs continue to provide liquidity so borrowers continue to have access to mortgages at reasonable terms.

The economic weather report aside, the forecast projects that, since long-term bond yields have recently come down, rates for 30-year fixed-rate mortgages will as well. Freddie has lowered projections for the 1st and 3rd quarters of 2007 to 6.2 percent and 6.3 percent from the rates projected in February of 6.3 and 6.4 percent respectively.

Housing starts were down 13 percent in 2006 as compared to 2005 and, by the fourth quarter were at a 1.56 million unit annual rate. Freddie forecasts that the worst is over and that home construction will gradually increase over the year. Home sales, on the other hand, are expected to fall another 5 percent this year on top of the 9 percent drop in 2006. This, however, is good news as the February forecast was for annualized sales of 6.40 million in the first quarter while now Freddie is projecting 6.45 million units. In fact, the March Outlook projected higher home sales for the first three quarters than did the February forecast; Quarter 2 is estimated at 6.40 million compared to 6.30 and Quarter 3 at 6.40 million as opposed to 6.25.

Freddie states that "home prices remain the most difficult of housing-related statistics to forecast due to the non-homogeneity of homes and the inclusion of unrelated benefits in sales contract prices such as seller-paid closing costs." The March projections for the year shows a modest 2.8 percent increase, much lower than the 6.2 percent rate in 2006 and lower than the 3.3 percent appreciation anticipated in the February forecast.

So, the March Outlook is for partly sunny, partly cloudy, with rising temperature invariably accompanied by continued stormy weather.