New Home Sales dropped to an all time record low in February, down 2.2% on the month to a seasonally adjusted annual rate of 308,000. The one saving grace to the report was that the January numbers, which previously were the all-time record low, were revised to a 315,000 rate from the originally reported 309,000 rate. Thus, relative to where we thought we were on home sales last night, sales were just down 0.3%.

That, however, kind of misses the overall point. The point is that new home sales remain at record-low levels for the second straight month. We are talking about data that goes all the way back to 1963, when the population was far smaller, and we are well below the level of new home sales way back then.

Relative to a year ago, which was far from boom times, sales are down 13.0%. Relative to the wild peaks of the housing bubble, new home sales are down 77.8%.

The first graph (from http://www.calculatedriskblog.com/), shows the long-term history of new home sales. This is extremely bad news — new home sales are usually one of the key locomotives that pull the economy out of a recession. At the end of every previous recession since they have been tracking new home sales, sales have risen sharply during or right at the end of recessions.

We also saw a slight 1.3% rise in the absolute level of new home inventories. That, combined with the lower sales rate, pushed the months of supply metric up to 9.2 months from 8.9 months in January. While the near-complete stop in the home building industry over the last year has managed to cut inventories on a longer-term basis, they are down 28.0% year over year, and the months of supply is down from 11.1 months (that’s almost a year’s worth of houses that were on the market back then, and we were briefly over a year in late 2008) a year ago.

The months of supply have been headed back up in recent months. In October, they hit a low of 7.3 months. The history of this metric is shown in the second graph (also from http://www.calculatedriskblog.com/). Even the October low was still very high by historical standards, but we are now back up to the same level we were at during the worst of the 1991 S&L crisis-induced 1991 recession.

While the sustained level of around 4 months during the housing bubble is not where we should be either, having over 9 months supply on the market is not an indication of a healthy market. The major homebuilders like D.R. Horton (DHI) and Lennar (LEN) have really only managed to stay in business because they got massive tax breaks. They have been able to carry back their current losses for five years, which essentially means that every penny of taxes they paid during the boom years is coming back to them in the form of tax refunds.

With 9 months of product “on the shelves,” there is no real reason for them to build any more homes (yes, I know that there can be regional differences, and a that an empty home in Tampa is not a great substitute for a house in Tacoma, but still…). If they are not building new houses, then they are not buying new plumbing fixtures from Fortune Brands (FO) or Masco (MAS), and they are not ordering a lot of wallboard from USG (USG).

They are also not employing a lot of people to build the houses, and construction is normally one of the big swing factors in employment. It is also an industry that has been extremely hard hit in this downturn, accounting for 31.8% of all job losses since the industry peaked (in terms of jobs) in August 2006.

While the bad news was largely anticipated, the consensus expectations were for a seasonally adjusted annual rate of 315,000. The upward revision to the January numbers is welcome, but this is a very depressing report. Some of the weakness might have been due to the snow storms, but weather should not affect new home sales as much as it does housing starts. If we see a big rebound in the March numbers, then we can attribute some of the February weakness to the snow (and correspondingly some of the possible March strength to a snap back from the weather related decline).

The regional pattern of the data suggests that there might have been some weather-related influence. The Northeast was the hardest hit region, both in terms of the snow and the sales, with a decline of 20.0% on the month, and unchanged from a year ago. The Northeast is also by far the smallest, and therefore least important, when it comes to the housing data. Sales in the region were just 9.1% of the nationwide total in February.

However, the Midwest was not particularly hard hit by the storms, and there the declines were almost as bad, down 18.0% on both a month-to-month and year-over-year basis. Relative to its normal weather, the South should have had the biggest weather-related impact. It posted a 4.8% decline, and is down 29.5% from a year ago. The South is by far the largest and most important region when it comes to the new home data, it accounted for 47.4% of all new home sales last month, but that was down from 58.5% of all new home sales a year ago.

The West, where there was no unusual weather impact, totally bucked the trend, with sales soaring 20.8% on the month and up 34.8% year over year. Thus it is possible that the disappointment was all due to the snow, but I would prefer to wait until the March data comes out to make a strong call one way or another on that issue.

New Home Sales Key to Post-Recession Periods

It is hard to over estimate the importance of new home sales for the overall economy, especially coming out of recessions. It is very hard to see how we can have a strong, robust and self-sustaining recovery without at least some contribution from residential investment.

Every house built causes a huge amount of economic activity. It is not just the jobs of the framers, electricians and roofing guys, but also the manufacturing jobs that go into making the building materials. Then there are the multiplier effects from those people having jobs going out and spending the money at, say, Wal-Mart (WMT), which keeps the Wal-Mart employees on the job, as well as the people who make the stuff that is sold at Wal-Mart (OK, so higher new home sales also indirectly benefits the Chinese as well as Americans).

Residential investment was a serious drag on the economy for 14 straight quarters before turning slightly positive in the third and fourth quarters of 2009. That long series of declines pushed residential investment from being at a near record high as a share of the economy at the end of 2005 to a record low in the first half 2009. Demand for new (and used, but used is not particularly important to the overall economy) housing is not really going to pick up until the rate of household formation picks up.

“Rate of Household Formation”

The rate of household formation is economist-speak for Junior getting a job and moving out of Mom and Dad’s basement. However, without a job, it is very hard for him to do so. People who are now doubling up with friends and family because they lost their jobs and thus their places of their own need to get a job so they can start moving back into their own homes. That will absorb the very high level of rental vacancies and the extremely high level of housing inventories, both new and used.

But if construction is normally a major swing factor in employment, then we will not see employment pick up until the demand for housing picks up. This is particularly true for those who do not have a college education, and the less formal education you have, the more likely you are to be unemployed — with the unemployment rate for high school graduates more than double that of college graduates in February, and the rate for High School drop outs more than triple the level for College grads.

Without a robust construction sector, it will be very hard to bring down the unemployment rate for the relatively less well educated, and those people are an important part of the group that is needed to start forming households again. Chicken, meet egg; egg, chicken.

I’m not yet ready to call for a double-dip recession, but it is clear that residential investment is being a serious drag on the recovery, which is exactly the opposite of what normally happens coming out of a recession. The weak housing numbers are coming despite historically low mortgage interest rates and high levels of government support for the industry. It is going to be a long, slow slog towards getting the economy fully moving again.

Dirk van Dijk, CFA is the Chief Equity Strategist for Zacks.com. With more than 25 years investment experience he has become a popular commentator appearing in the Wall Street Journal and on CNBC. Dirk is also the Editor in charge of the market beating Zacks Strategic Investor service.

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