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As Bill McBride a/k/a Calculated Risk has pointed out, mortgage rates are now lower than they were one month ago. While I expect that to lead to improvement in the housing market, I don't expect any sudden new surge in sales. The reason is shown in this first graph:

This graph shows the YoY% change in mortgage rates (red) vs. the actual conventional mortgage rate (blue). While the YoY number has turned lower (and therefore positive for borrowers), the absolute number is still almost 1% higher than its post-recession lows. Simply put, even with this YoY improvement, there is still a certain pool of potential buyers who could afford a mortgage at their lowest rates, who can't afford a mortgage now.

That helps put today's report on existing home sales in perspective. Here's the YoY% change in interest rates (scaled for easier viewing) vs. the YoY% change in existing home sales:

Although the relationship is somewhat noisy, it is easy to see that sales follow interest rates. During the housing bubble, the turn in sales was delayed, but when it turned, it turned more deeply. Thus the turn in rates suggests that housing sales will turn positive YoY in about the next six months.

Although sales were YoY negative for the fifth straight month, prices and inventory have continued to rise. This next graph shows YoY sales (blue), compared with prices (red) and inventory (green):

As I pointed out last week, prices lead inventory. Higher prices bring out more inventory; lower prices cause potential sellers to hold back. The above graph adds the information that sales lead prices. The more sales increase (decrease), the higher (lower) prices go.

Finally, let's take a look at all four data series, graphed for the last two years (I didn't include a longer time scale because it would be too noisy). This graph shows mortgage rates (inverted, bright red), sales (blue), prices (maroon) and inventory (green).

Note that mortgage rates turned first, and are now about to turn positive YoY, sales have followed and are negative YoY, prices are decelerating but still positive, and inventory turned last of all and is still increasing at a considerable pace.

So let's pull this together to show the full housing cycle:

1st, interest rates turn

2nd, sales turn

3ed, prices turn

4th, inventory turns

Today's existing home sales report shows that sales have begun to react to the gradually lower interest rates that have occurred since the beginning of this year. Prices are still reacting to the decrease in sales in the last six months. Inventory is reacting to the continued although decelerating increase in prices in the last six months.

I expect sales to continue to improve YoY and turn positive by about the end of the year. Prices, however, should turn negative YoY in the next few months, as inventory continues to increase.

I expect tomorrow's new home sales report to confirm these trends as well.

New Deal Democrat, XE.com.

Source: The Housing Cycle: How Today's Existing Home Sales, Prices And Inventory Fit