U.S. Housing: No Longer a Drag on the Economy but Far from Standing on Its Own

I mentioned back in March that a housing bottom would be evident by the end of the summer. As we will see below, the last six months have been largely positive for the U.S. housing market but the process has not been cheap. It’s taken more than a trillion dollars in government stimulus, GSE takeovers and purchases in mortgage-backed securities but it is official. Housing is no longer a drag on the economy.

For the first time in almost four years investment in housing is no longer a drag on economic growth. Within the initial GDP growth numbers for the U.S. the category of residential investment contributed half a percentage point of growth to the U.S. economy in the third quarter.

Actually, I should modify that statement to read “investment in housing is no longer a formal drag on economic growth as measured by the government and economists.” The lingering effects of the collapse in housing are still very real in terms of unemployment and reduced bank lending.

With that said the move to positive growth in this sector of the economy should not be entirely discounted. A swing from an average of roughly three quarters of a percentage point in negative growth to half a point in positive growth equates to a $40 billion shot in the arm for the economy in a quarter.

Let’s look at the normal monthly data.

New home sales are down for the first time in six months. Sales of new homes decreased in September almost 4%. Inventory of new homes for sale continues and now stands at 251,000 homes, which represents 7.5 months of inventory. One explanation for this drop is that the home market began to stall in September. However, this is inconsistent with existing home sales which as we will see below showed strong growth in the month.

An alternate explanation is that the inventory of new homes is getting so low that there is insufficient choice of new homes and buyers are purchasing existing homes instead. While 7.5 months of inventory is slightly above the norm of half a year’s supply, the absolute number of 251,000 is a level not seen since the 1967 – 1970 period. It is therefore not surprising that construction of new homes is starting to pickup and that contribution to economic activity is helping to boost the overall economy if only by a small amount.

Existing home sales return to an upward trend. After a decline in August, sales of existing homes in September increased more than 9% to a multiyear high. Inventory of existing homes has dropped to 3.6 million homes or 7.8 months of supply.

Existing home inventory is declining slowly. There still remains a considerable amount of concern and anecdotal evidence that the full inventory of houses homeowners would like to sell are actually on the market. This “shadow” inventory did not make an appearance on the market this year, in part, because the strength of the market was not apparent until the summer was almost over.

Foreclosed homes sold by banks or other lenders continue to make up about 28% of monthly sales. While defaults, foreclosure sales and overall foreclosure figures declined slightly in September, they remain at quite elevated levels. I would like to see a few more months of data before we can tell if the recent strength in home sales and prices is translating into renewed momentum by homeowners, lenders and the government to stem the tide of foreclosures.

Home prices continue to strengthen through the summer. The strength in prices as measured by the S&P/Case-Shiller Home Price Index continued through August with both the 10-city and the 20-city composite indices racking up more than 1% monthly gains. Unlike other indices, Case-Shiller is a 3 month moving average and it is not seasonally adjusted. The reading for August (which averages data from June to August) captures the full strength of the summer selling season and thus may very well be the best reading for the rest of the year.

Pending home sales figures remain strong ahead of the tax credit expiration deadline. It is fair common for sales of existing home figures to have an up/down saw tooth pattern but continued upward trend in pending home sales (a leading indicator of homes sales about 60 days later) indicates that sales of existing home will remain strong for two more months at least.

The National Association of Realtors’ Chief Economist Lawrence Yun credited the surge in the Pending Home Sales Index to the rush of home buyers looking to close their purchases ahead of the existing November 30, 2009 deadline. If this were true, it would show up in the most leading of indicators, mortgage applications.

Mortgage Applications Are Trending Down Ahead of the Deadline. With roughly a two month period required to close on a home purchase in the United States, it would not be surprising to see activity begin to slow 60 days ahead of the end of the tax credit program. The start of the buying process is best captured by the MBA Weekly Mortgage Applications Survey which, on cue, began to decline after its recent high at the beginning October. Last week’s index level for purchase applications was the worst since May.

This decline throughout October indicated that the end of the first time buyer’s tax credit was threatening recent momentum in the market. As this was becoming apparent (also on cue) the U.S. Senate and the White House agreed to terms for extending this stimulus program. The extension must still be voted into law during the month of November but there now appears sufficient support in the administration and Congress for the program to continue into next year with a gradual decline in value throughout 2010 rather than the abrupt end this month.

It has taken more at least a trillion dollars of government and central bank spending in fiscal and monetary stimulus programs to get to this point but the momentum in the last half year has put a floor under home sales and prices. For the first time in four years housing is not a drag on economic growth. This is all good for the housing market but $40 billion in economic value paid for by a trillion dollars in stimulus makes for a pretty poor return on investment.

The agreement to extend the first time home buyers tax credit (as well as the continuing purchases of mortgage backed securities by the Federal Reserve) indicates that the U.S. housing market still remains in a precarious state. Politicians and central bank officials aren’t yet ready to let the market to stand on its own, free from government support.

Disclosure: While the stock was not specifically discussed in this article, the author has a long position in mortgage insurer the PMI Group (PMI).

Comments

[damienhaas:]

If it take more than Trillion dollars of government stimulus, then it is still a drag to the economy, It just make use of government money to subsidize the housing markets. When the stimulus effect is over, you will see the true color of the housing market. Even though I think the government will continue to print money to support the housing market.

Nov 02 06:48 PM

[JAMES CARLINI:]

It would be good to chart the Commercial side of real estate and superimpose it on some of your charts. I don't think real estate (as a whole) is out of the woods and it is STILL a drag on the economy.

Nov 02 07:20 PM

[DanielP:]

What about the thousands of homes that still have not been offloaded by the largest banks such as BOFA? What will happen when they can't hold those homes anymore and put them on the market. The current numbers don't account for that.

Further, What about the many commercial properties that will be in need of refinancing in the next 6-12 months? We are DEFINITELY not out of the woods.

Nov 03 01:25 AM

[Moon Kil Woong:]

As long as rates remain at zirp and quasi government agencies are needed to artificially facilitate the housing market the property market will remain not just a drag on the economy but a fatal non-capitalistic flaw.

Unless we can find a property market system that doesn't need government propping up we will have to endure cycle after cycle of this. And unless we can wean our way off things that destroy the free market system and real risk and reward our recoveries will become less robust and our economic crisis will become more and more dire.

The real estate market remains our Achilles heal not by design but because we chose to open a chink in our armor of free market capitalism.

Nov 03 03:58 AM

[dpnstl:]

I agree with many of the author's viewpoints however beneath the hype that housing has bottomed is an ugly little scenario: lending standards are still loose and the low-down payment, high-risk loans being guaranteed by government agencies are setting up the next giant wave of defaults and foreclosures...there is a complete analysis of this by Charles Hugh Smith in a post at:

realestateconsumernews.../

Nov 03 05:48 AM