The state of the US housing market in the fourth quarter of 2022 can be best described in two words: very challenging! While the current housing market is not in dire straits as it was during the financial crisis that unfolded in the 2008–09 period, echoes of concern linger in the industry. Currently, the problem has to do with excessive liquidity and inflation, not poor underwriting standards like last time. The US government’s easy monetary policy that followed the great financial crisis and even more money printing as part of the COVID-19 pandemic response have boosted the prices of all assets.
Over the last few years, home prices in many US markets have risen 10–30%. All of this excess liquidity has given rise to the ‘Inflation Monster’. This monster will not be tamed easily. To fight inflation that is impacting most Americans, the US monetary policy regulators have embarked on a path of excessive tightening by increasing interest rates and rolling back liquidity.
This has created volatility in the stock and bond markets while creating uncertainty on Main Street. Business owners and CEOs of large and small companies lack visibility and are mostly paralyzed until they see better economic conditions. Rising costs have crimped margins leading to losses in many sectors, most notably housing and related financing sectors. Supply chain issues have only added to the woes.
Review of 2022
Businesses have no choice but to cut costs and lay off employees as they prepare for a recession ahead in 2023. The businesses that serve the housing sector have a decision to make: either right size or die.
Many US companies borrowed excessively over the last two years and now with interest rates rising and business slowing, they have to make some very difficult choices. The home financing sector is at the forefront of this carnage. After record years of revenues and profitability, the home financing industry has slowed, with originations of new financings now at 25-year-low levels.
Many new start-ups in the home financing industry that operated in the non-qualified mortgage space (not backed by government-sponsored entities) have already gone out of business with more to follow soon. To make matters worse, clear battle lines have been formed in the home financing industry between two competing business models: direct lenders vs. the broker (wholesale) channel.
The direct lending model is where the financing company offers its services through its own sales staff. The broker channel is independent. It sells products offered by one or many independent mortgage companies. It makes commissions (or a fee) when it brings a customer to the wholesale mortgage lender. It very much operates like an independent realtor, making commissions when the deal closes.
Over the last year, a few direct lenders (eg Rocket Mortgage) and a few wholesale lenders (eg UWM) have gone public and raised capital in the public market while business conditions were good. They now have strong balance sheets and can compete aggressively for new business while driving out smaller players in the industry. This price and ideology war between large mortgage companies is creating havoc for smaller mortgage companies.
The end result will be a shakeout that will transform the US mortgage industry forever. While the Islamic financing industry is not immune to economic conditions, we are much more insulated than other conventional lenders. The customers who want Islamic financing will seek it out and tune out the ‘market noise’.
Also, an average Muslim consumer in the US is well educated and affluent. They can manage the economic downturn better than their non-Muslim counterparts. Regardless, the Islamic financing industry is preparing itself for the downturn and hoping to emerge stronger on the other side.
Preview of 2023 and conclusion
No matter how you look at it, 2023 will be a very challenging year for the US housing and financing industry. Islamic financing companies will have to confront the economic conditions that lie ahead. The US mortgage industry will shrink in volume from over US$4 trillion in 2021 to around US$2 trillion in 2022 and projected to be US$1.5 trillion in 2023.
This decrease in business volume in such a short period of time is testing business models like never before. Companies have to downsize fast, this is also known as ‘right sizing’ to make it sound more appealing to all concerned parties. Islamic financing companies will have to adapt to market conditions and if not, they too risk extermination. Some companies are much better positioned to deal with the downturn because of investments made over the years in technology, products and people.
Islamic financing companies with monoline business models will have a very challenging time surviving the downturn. With refinancing over as rates have increased, every home financing company is fixated on the purchase market. Companies equipped to take advantage of the purchase market and companies that have a broader product offering beyond home financing will not only survive but thrive in 2024 and beyond! In the meantime, we all turn to God and pray for better times to return again soon.
Aijaz Hussain is the executive vice-president of sales and a director at UIF Corp. He can be contacted at [email protected].