Record Oil, US Housing Distress, and Jamaica’s Property Market at the Crossroads — July 2008

Publication Date: July 3, 2008 | Coverage Period: June 3–July 2, 2008 | Category: Monthly Review

Month in Brief

• Crude oil prices surged toward record territory through June, approaching the US$140-per-barrel threshold as global supply concerns, speculative positioning, and unrelenting Asian demand converged; Jamaica’s fuel import costs reached crisis levels, with the government under intense pressure to respond.
• Fannie Mae and Freddie Mac — the US government-sponsored enterprises that underpin the majority of American residential mortgages — saw their share prices collapse through June on mounting concerns about their capital adequacy and their ability to absorb losses from a deteriorating mortgage book; the US government’s implicit guarantee of these institutions was increasingly being called upon to preserve market confidence.
• US housing market data for May, released in June, confirmed continued price declines across all major metropolitan markets; the S&P/Case-Shiller index posted its steepest year-on-year fall on record, signalling that the US mortgage crisis was deepening rather than stabilising.
• The Bank of Jamaica’s monetary policy committee maintained its policy rate in the 11–13% range while acknowledging the severity of the inflationary environment; inflation in Jamaica reached a multi-year high driven predominantly by food and energy costs.
• The Jamaican dollar depreciated modestly against the US dollar, reaching J$80–82 per dollar as capital flows into the island slowed and the trade deficit widened; the Bank of Jamaica managed its foreign exchange reserves carefully to smooth the adjustment.
• Construction activity in Jamaica fell to its lowest level in several years as developers deferred or cancelled projects unable to be priced viably in the current cost environment; the self-build sector similarly contracted as household budgets were squeezed.

Housing Market Overview

Jamaica’s residential property market in June 2008 reached what market observers characterised as a point of maximum external pressure. The combination of record-approaching oil prices, a deepening US housing crisis, the emergent vulnerability of Fannie Mae and Freddie Mac, and a domestic inflation rate that was eroding real incomes created an environment in which the prudent buyer deferred and the motivated seller found few takers at desired prices.

Transaction volumes in the Kingston metropolitan area were, by most agents’ accounts, running at around 60–70% of the levels seen in comparable months in 2006. The time-on-market for listed residential properties had extended significantly, with agents noting that properties that might have sold in six to eight weeks in 2006 were now sitting for four to six months before achieving a sale, and often at prices below initial asking levels.

The distress visible in the US housing market was not replicating itself in Jamaica in any direct sense — there were no widespread mortgage defaults, no forced sales at scale — but the US experience served as a cautionary backdrop that was influencing buyer psychology. Jamaicans who had observed the destruction of US housing wealth through the sub-prime crisis were, naturally, more cautious about committing to property at prices that seemed stretched relative to local fundamentals.

The upper market segment — prestige Kingston properties, resort-adjacent north coast real estate — held up somewhat better, supported by overseas buyer interest and by the limited supply of genuinely premium product. These markets move on different dynamics, and their relative resilience should not be read as evidence of broad market health.

Government Policy and the NHT

The Golding government’s June agenda was dominated by the management of the fuel and food price crisis rather than by housing-specific policy. The cabinet was focused on emergency relief measures, on negotiating terms with fuel suppliers, and on maintaining macroeconomic stability in an extremely challenging external environment. Against this backdrop, housing policy was not at the top of the agenda.

The NHT continued to process applications and disburse mortgages, and its scheme delivery programme continued at existing sites. However, the cost environment was affecting the NHT’s own project economics: schemes that had been costed and priced in 2006 or early 2007 were now delivering below their original margin assumptions, and the Trust was engaged in a careful review of its pipeline to assess which projects remained viable at original prices and which required repricing.

The fundamental question facing housing policy in Jamaica in mid-2008 was one of supply-side capacity: could the state and the private sector continue to bring affordable units to market when construction costs had risen so sharply? The answer, for the time being, was a qualified yes — but with fewer units, at slower pace, and at prices that stretched affordability further than had been the case even twelve months earlier.

Construction Sector

June 2008 was a month of acute difficulty for Jamaica’s construction sector. Diesel at J$100-plus per litre, cement prices at multi-year highs, and steel rebar costs elevated by global demand from Chinese infrastructure projects combined to create a cost structure that was making large categories of construction project economically unviable unless prices were revised substantially upward.

Major contractors with ongoing commercial and government projects were engaged in intensive negotiations with clients over price revision mechanisms. The government, as the single largest client of the construction sector through its infrastructure and public building programmes, was under pressure to agree to price adjustments that its own budget constraints made difficult to accommodate. Several public sector projects were reported to be on hold pending resolution of these cost disputes.

Private residential developers, responding to the combination of rising costs and slowing sales, were pulling back. Several planned schemes in the Kingston Metropolitan Region and in St Catherine were reported to have been deferred pending a clearer view of the cost and demand environment. This contraction in supply would, over the medium term, reduce the available stock of new housing — a dynamic that would eventually support prices if and when demand conditions improved.

Investment Climate

The investment climate for Jamaican property in June 2008 was challenging but not without opportunity for the well-capitalised and patient investor. The retreat of leveraged buyers from the market, the deferral of new supply, and the persistence of underlying housing demand created conditions that, for long-horizon investors, represented a potential buying opportunity in selected segments.

The risk, of course, was that the external environment would deteriorate further. The fragility of Fannie Mae and Freddie Mac — institutions whose combined mortgage exposure exceeded US$5 trillion — raised questions about the stability of the broader global financial architecture that investors everywhere were struggling to answer. A disorderly failure of either institution, or a scenario in which the US government’s support was not forthcoming quickly enough to prevent a crisis of confidence, could have severe global consequences.

Jamaica would not be immune to such a scenario. The island’s dependence on external capital flows, on tourism revenues from North American visitors, and on remittances from the diaspora all created channels through which a deepening US financial crisis could transmit into the Jamaican economy and, in turn, into the property market.

Diaspora and Remittances

June remittance data confirmed the trend that analysts had been anticipating: year-on-year remittance growth was decelerating, and the month represented one of the weaker inflow periods of the preceding two years. Jamaican communities in the United States — particularly those concentrated in the construction, hospitality, and retail sectors — were experiencing elevated unemployment relative to the prior year, and this was beginning to show up in the data.

For the housing market, the immediate effect was modest but directionally important. Diaspora purchases of Jamaican property — typically made by individuals who have accumulated savings over several years and are returning or investing remotely — depend on financial security in the country of residence. That security was being undermined by the US economic slowdown, and some prospective buyers were deferring their Jamaican property purchases until their personal financial situations stabilised.

Affordability Watch

The affordability crisis in Jamaica’s housing market had, by June 2008, become a defining feature of the economic landscape. The inputs to the affordability equation — construction costs, financing rates, and household incomes — were all moving adversely. A family seeking to purchase a modest two-bedroom home in Portmore or Spanish Town was facing real monthly payments that, at commercial rates, absorbed 40–50% of a dual-income household’s earnings — a ratio that conventional mortgage affordability frameworks identify as financially distressed.

The NHT’s mortgage products represented a substantial alleviation of this burden for qualifying contributors, but the Trust’s scheme pipeline could not absorb all of the demand it was generating. The result was a long and growing queue of NHT beneficiaries awaiting units that would not be delivered for months or years. In the interim, these households rented, doubled up with family members, or pursued informal housing solutions — none of which addressed the underlying supply deficit.

Looking Ahead

The third quarter of 2008 opens with a degree of uncertainty about the global economy that has not been seen since the depths of the Asian financial crisis a decade earlier. Oil prices remain near record levels. The US housing market is in its sharpest downturn in decades. Fannie Mae and Freddie Mac face questions about their long-term viability. The global banking system is under stress.

Jamaica’s housing market will navigate this environment as it has navigated difficult external conditions before — with a combination of structural resilience, policy support through the NHT, and the enduring underlying demand for housing that a growing population and an aspirational middle class sustain. But the headwinds in the second half of 2008 are among the most severe the market has faced in the modern era, and prudence counsels caution in both supply and demand decisions until a clearer picture emerges.

Jamaica Homes Monthly Housing & Development Review is published on the first business day of each month. Next edition: August 3, 2008, covering July 3–August 2, 2008.