Barring The Fed Reversing Course, Housing Has Peaked For This Cycle

Summary

• All measures of house sales showed a continuing downtrend in September.
• Meanwhile, prices have continued to rise, and inventories are rising as well.
• Unless the Fed changes course in response to economic weakness, housing has peaked.

Introduction

In my reports on the two previous months of housing data, I said it looked like housing sales had at least plateaued, and indeed, there was increasing evidence that housing sales were rolling over. With September's data now complete, it is clear that, unless the Fed reverses course soon, housing has peaked for this economic cycle.

Let me start this look at the data by repeating my housing mantra:

• interest rates lead sales
• sales lead prices
• prices lead inventory

This doesn't mean that inventory doesn't have an effect on prices, or that prices don't have an effect on sales. They do. It simply means that the effects of high prices, for example, will show up in sales even as prices continue to rise.

Mortgage interest rates

Let's start with a look at mortgage rates, and their effect on sales.

Here are mortgage rates since their low in May 2013:

What this shows is, although the immediate move in the 2013 "taper tantrum" was more dramatic, interest rates only remained elevated for a limited time: only five months of the next nine over 4.4%, and only two months total over 4.5%. This year they have remained over 4.8% for seven straight months.

Now let's see how that affected housing sales by adding in single family permits (the least volatile metric) in red (right scale):

Housing permits stopped increasing in late 2013 and for the first 8 months of 2017, slightly after hefty increases in mortgage rates. In the beginning months of 2016, they also slowed down briefly. By contrast, when mortgage rates declined in late 2014-15, and the last eight months of both 2016 and 2017, shortly thereafter issuance of housing permits increased at an accelerated pace.

This year the trend in permits has actually been downward since February, the steepest such decrease since the bottom in 2011.

In the past month, mortgage rates have risen to still further seven-year highs. Thus, we can expect continued pressure on sales.

Housing sales

Next, here's a comparison of single family starts (blue), permits (red), and new single family home sales (green) since the beginning of 2016:

Neither new home sales nor single family starts have made new highs since last November, 10 months ago. Single family permits have not made a new high since February. Although I have not shown them, since the NAR does not allow FRED to retain more than one year's data, existing home sales have not made a new high since March of 2017, 1 1/2 years ago!

Next, to show you the longer term trend in this expansion, here is the YoY% change in all three series since the beginning of 2013:

Since it's hard to distill signal from noise in that spaghetti, here's what the YoY% change of the three averaged altogether looks like:

The "taper tantrum" caused a complete stall in the housing market in the first half of 2014, and a similar downturn has occurred so far this year. With, as mentioned before, mortgage rates at a seven-year high, it is likely this negative trend will continue.

Another good indicator for the housing market is to subtract new houses for sale from new houses sold, as this typically turns down well before any recession begins. Here's what that looks like now:

Last month I said that if this indicator turned down at least 33% off its high, that would be enough to constitute signal vs. noise, and would be a significant negative indicator. As of this month, it has declined more than 40%.

Further, last Friday, we got residential fixed investment for Q3. This too has turned down both absolutely and as a share of GDP:

Finally, last month I noted that the Mortgage Bankers Association's weekly report of purchase mortgage applications had recently risen at nearly 4% YoY. Since then, the pace has abated, and they are only up 1% YoY and remain well below their seasonally adjusted peaks:

Last autumn and winter, despite higher mortgage rates, mortgage applications continued to rise. That does not appear to be happening - at least so far - this year.

In sum, all of the housing sales metrics are telling us that we have an actual downturn, not just a pause.

Housing prices

This morning, both the Case-Shiller (national NSA index, blue in the graph below) and the FHFA (purchase only, green) house price indexes showed continued increases, albeit at a slightly less robust rate, in contrast with single family permits (red) as discussed above:

So we see that, even though sales as measured by all metrics have recently declined, prices are continuing to increase.

In contrast to 2014, when house prices had recently bottomed, house prices as compared with median household income, are at or near all-time highs, including the bubble period. In its most recent report one month ago, Sentier Research reported that real median household incomes had risen only 2.8% YoY, in contrast to house prices, which even with today's report, were up 5.8% on the national level YoY.

With prices continuing to increase, this will only add to the downward pressure on sales.

Inventory

Housing inventory, at 7.1 months, made yet another new cycle high:

And here is actual inventory (blue), compared to the 20 city Case-Shiller housing price index (green), to show how inventory lags prices at least slightly:

So I expect new home inventory to continue to rise.

Conclusion

To return to my housing mantra:

• In response to persistently higher interest rates, sales have turned down.
• In response to lower sales, price increases, while still continuing, are moderating.
• Inventory is still increasing, possibly at an accelerating rate.

The long leading indicator of the housing market has turned firmly negative.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.