Signs of the Times

Signs of the Timesby David Lereah, NAR Chief EconomistOur nation’s housing markets have been in a slump since late last year. Existing-home sales are projected to fall by about 9 percent this year. New home sales are expected to fall by almost 17 percent. But take heart – the worst may be over. As we enter the new year, further contraction in the housing industry may be limited. The signs are out there – but you need to look.The pace of existing-home sales appears to be close bottoming out – resales have hovered around 6.3 million annualized units during the past several months. We’ll need to wait for at least two more months of data before confirming that we have hit bottom. But year-over-year pending sales for existing homes are improving, from a 16 percent drop in July to a 13 percent drop in August to an 11 percent drop in September. More encouraging news: new home sales actually posted positive growth during the past two months. Home inventories are also improving. The supply of both existing and new homes fell during the past two months. The supply of existing homes has topped out at 7.3 months, while the supply for new homes fell from 7.1 months in July to 6.4 months in September.Other housing measures also suggest that the industry’s downturn may be over. The Mortgage Bankers Association’s index of mortgage purchase applications has stabilized within the 380 to 400 range. Home price appreciation has turned negative the past two months. And, while that may sound like bad news it may actually be a welcome development, forcing sellers to show some flexibility and bringing buyers back to the market. With household wages and incomes rising and home prices falling, housing affordability measures are improving. The NAR Housing Affordability Index has moved up in September to 108 compared with 100 in July.It's About ConfidenceSo why should the doomsayers of housing -- those who are predicting a prolonged contraction and a tumbling of home prices -- believe that the housing contraction of 2006 is almost near its end? The answer lies in the attitudes of households. The current contraction has to do with household confidence, or rather, lack thereof. Previous housing downturns were driven more by households’ financial wherewithal to purchase a home.For instance the last two housing contractions (1979-1981 and 1989-1991) occurred against an economic backdrop of job losses, negative GDP growth (a recession), and double-digit mortgage rates. Simply stated, households did not have the wherewithal to purchase homes, even if they wanted to. Today’s housing contraction has more to do with negative household confidence, and home prices rising to unaffordable levels.It won’t be surprising to see home sales bottom out after a year of slowing. During this past year, affordability measures improved. With every home price drop, there is a buyer who was standing on the sidelines and is now willing to get back into the home-buying market. There are also marginal home buyers who now qualify to purchase a home because of falling prices. Further, our growing economy is creating jobs and wage/income gains. With every job creation and every wage/income gain, housing affordability improves for that waiting-on-the-sidelines home-buyer household. So over time, there are market forces that are working to improve affordability, thus permitting households to buy homes. This is why the 2006 housing contraction is almost over.Some Areas Will Take Longer to ImproveOf course, it’s not going to be all roses and sunshine. There are a number of metropolitan areas that will continue to experience some pain well after the national housing market contraction ends. I estimate that 26 percent of our markets will continue to contract in 2007. These are the hottest boom markets of the past five years that are cooling the fastest. (I guess the bigger they are, the harder they fall applies.) As you would expect, they are the usual suspects: California, southern and middle Florida, resort locations sprinkled down the east coast, Washington, DC, New York, Boston, Nevada and Arizona.Some of these markets will correct sooner than will others. The length of time for each market’s correction and how far prices need to fall for that correction to be complete depends on some local market measures – local job creation, the median home price, net migration, affordability and the share of second-home buying. I expect most of these markets to fully correct by the second half of next year. But there may be some markets that may experience contraction well into 2008.Still, we should put all of this into perspective. The real estate boom of 2002-2005 was unprecedented. The industry flew higher than it ever did. The plane needs to land and refuel in order to take off again.