Wednesday, March 25, 2009

New Home Sales: Is this the bottom?

by Bill McBride on 3/25/2009 02:31:00 PM

Earlier today I posted some graphs of new home sales, inventory and months of supply.

A few key points:

  • Please do not confuse a bottom in new home sales with a bottom in existing home prices. Please see: Housing: Two Bottoms

  • New home sales numbers are heavily revised and there is a large margin of error. Regarding the sales for February, the Census Bureau reported:
    This is 4.7 percent (±18.3%) above the revised January rate of 322,000, but is 41.1 percent (±7.9%) below the February 2008 estimate of 572,000.
  • The "rebound" in February was very small, and this is the worst February since the Census Bureau started tracking new home sales in 1963.

    New Home Sales and Recessions Click on graph for larger image in new window.

    This graph shows the February "rebound".

    You have to look closely - this is an eyesight test - and you will see the increase in sales (if you expand the graph).

    Not only was this the worst February in the Census Bureau records, but this was the 2nd worst month ever on a seasonally adjusted annual rate basis (only January was worse).

  • Still, I believe there is a good chance new home sales will bottom in 2009. See Looking for the Sun. Because the data is heavily revised, we won't know until many months after the bottom occurs. Also, as Dr. Yellen noted earlier, we need to distinguish between growth rates and levels. Any bottom would be at a very grim level, and any recovery would probably be very sluggish because of the huge overhang of existing homes (especially distressed homes). It is theoretically possible for new home sales to go to zero (very unlikely), and it is also possible that January was the bottom. We just don't know ...

  • Anecdotally, I just spoke to two SoCal builders - both told me sales had picked up in the last week or so (March). Of course sales in SoCal have been close to zero, so this is like a few rain drops to a thirsty man lost in a desert - it seems like a flood!

  • For a healthy market, the distressing gap between new and existing home sales will probably close.

    Distressing Gap This graph shows existing home sales and new home sales through February.

    For a number of years the ratio between new and existing home sales was pretty steady. After activity in the housing market peaked in 2005, the ratio changed. This change was caused by distressed sales - in many areas home builders cannot compete with REO sales, and this has pushed down new home sales while keeping existing home sales activity elevated.

    To close the gap, existing home sales need to fall or new home sales increase - or a combination of both. This will probably take several years ...

  • If housing bottoms (or even if the decline in residential investment just slows), this will remove a significant drag on GDP growth. This would be a positive sign for the economy.

    The following table, from Business Cycle: Temporal Order, shows a simplified typical temporal order for emerging from a recession.

    When Recovery Typically Starts

    During Recession Lags End of Recession Significantly Lags End of Recession
    Residential InvestmentInvestment, Equipment & Software Investment, non-residential Structures
    PCEUnemployment(1)


    There are a number of reasons why housing and personal consumption won't rebound quickly, but they will probably bottom soon. And that means the recession is moving to the lagging areas of the economy. But we know the first signs to watch: Residential Investment (RI) and PCE.

    (1) In recent recessions, unemployment significantly lagged the end of the recession. That is very likely this time too.

  • Finally, even though some signs of a bottom might emerge (housing starts, new home sales, auto sales), it is worth repeating that any recovery will probably be very sluggish. Here are a few key reasons: house prices are still too high, there is too much housing inventory (especially distressed properties), households have too much debt and need to improve their balance sheets, the recession is global, and the Obama administration has chosen a less than optimal (and very expensive) approach to fixing the financial system.