Given the myopic news coverage of the U.S. real-estate market (housing market), the constant focus on limited statistics, one might conclude the housing market is headed south, again. Is it? Putting the “numbers” in context will help answer the question.
First off, understand that the housing market is a simple entity, despite the fact that we formulate conclusions based on mind-numbing statistics. Really, it is a simple system comprised of basic components and one fundamental economic principle.
Three basic components form the basis of the U.S. real-estate market. These are:
- homes purchased;
- the number of homes currently for sale;
- the average selling price.
And like a market-based economic system, the fundamental principle is supply and demand. As it is in the case of the overall economy, the driving force of the housing market is the strength or weakness of the consumer, which is the ultimate arbiter of any recovery.
The reason I point out this simple truth is that, as traders, we tend to get caught up in the media reporting the numbers. The problem with this is, like most all news reporting, simply announcing certain statistics does little to help anyone understand the true health of the housing market, especially as it relates to our economic recovery. Simply, the media reports the numbers without the context, so here is some context.
The 7.2% dip in homes sold from December’s annualized rate of 5.4 million to January’s 5.05 million caused some big trading ripples. In context, this drop is normal in the historical housing market. The natural flow of the housing market is ebb and flow, and this time of the year is the ebb cycle. But even with this, January’s sales were still well above homes sales from a year ago, and even two years ago. Additionally, the government’s purchase incentives in place last fall created an artificially high number of homes sold in November and December, so one might consider a drop in January normal, as well.
As to the number of homes currently for sale (inventory), add this to the context – total inventory levels fell to 3.26 million last month – the lowest reading since 2006. Many analysts consider this, in conjunction with demand, to be the foundation of housing prices. What about the so-called “shadow” inventory, one might ask? This phantom aspect consists of houses that, in a normal economic environment, would be on the market but are not, houses entering foreclosure but not yet for sale, and houses still to enter foreclosure in the coming year or so. While one cannot argue against this reality, the question arises: how does one measure the impact of these estimated numbers, which, by the way, are subject to change either positively or negatively depending on economic circumstances?
The last piece of context is the average selling price of a house. The average price of a sold home fell to $254,500 last month, a drop from December’s average of $274,400. On the one hand, this is a really big deal, as it represents lost wealth at a time when our economy has already lost trillions in wealth in other areas. On the other, factor in the higher prices associated with the “heated” incentive-based market of last fall, and one could conclude the drop in price, like the drop in sales, was to be expected. Yet, even so, home prices are higher today than they were a year ago.
Even in context, the U.S. housing market is still in bad shape, but it is not as bad the numbers suggest, nor is it as bad as the media portrays it to be. In fact, one could argue that, in context, the market has stabilized and is now poised to begin a recovery. Now factor in the falling inventory (consider the shadow inventory for sure) and falling prices. It would appear the potential for a housing market recovery is right in line with the developing recovery of the economy as a whole.
One more piece to add to the context is that new home sales are anemic, which has been reported, and this speaks to the economic recovery as a whole, but consider that all new homes sold are less than 15% of all houses sold. Additionally, a new “new home” building paradigm is developing that will aid in the housing market recovery sooner rather than later. The new homes being built, on average, are much smaller in square footage. Builders are downsizing to reduce costs and create affordability, which fits with the consumers’ new conservative attitude when it comes to spending.
The lesson here for traders is that we cannot rely on media reporting “numbers” to formulate our understanding of the overall economic situation, or the housing market specifically. As always, the whole is simply the sum of its parts, and if we look at each part in isolation, there is no way we can ever understand the whole. The housing market is no different. Adding the context allows us to see the larger whole, which then allows us to analyze the smaller parts with more accuracy and confidence. It may be some time before all the pieces fill out to the pending conclusion, which is that economic recovery in all areas will come, but, until that time, let’s not focus too tightly on just some numbers. Let’s consider them all in context.
