Dec 13 2006 11:50AM | Permalink | Email this | Comments (2) |
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Housing demand has stopped declining and is now likely higher than the reduced number of new homes now being started. This ends the first stage of the housing market adjustment and gives homebuilders and their suppliers better visibility on housing market conditions and trends. The next stage is to reduce home inventories to a normal working level so starts can rise to the level of home demand. This has been underway for four or five months but it is still not clear how long this process will take.

The turnabout to rising housing demand can not be documented but can be reliably inferred from the abrupt change in housing market conditions. It is also confirmed by consumer surveys that report a rise in consumer intentions to buy a home.

People always buy more of whatever becomes relatively less expensive. Homes have become less expensive in the last few months. 30-Year fixed mortgage rates are 70 basis points lower than early in the summer. This cuts monthly principal and interest payments on a $200,000 mortgage by $90.50 or about 7%. Home prices are down 4% over the same period for existing homes but this is almost certainty an underestimate of the decline. A 10% price cut has a huge impact on demand but it takes many months to have its full impact. And income growth has at least kept up with inflation since the spring.

The surplus inventory of homes is reported by the Census Bureau and the National Association of Realtors to be about three months at the current rate of sales in October. But it is larger than that because more homes than usual under contract or recently sold will be put back on the market soon by their financially distressed owner. Also, the resetting of initially low “teaser” mortgage rates and the decisions by home speculators to take their loss and move on to other investments will add to surplus inventory.

Here is how to calculate how long it will take to absorb the surplus inventory. The best case scenario is that the surplus is three months and that housing demand has recovered to 1.8 million a year just a little short of the underlying demographic trend in an economy growing at just below the sustainable long-term growth rate. If housing starts stay at October’s 1.486 million pace, then it will take two months to work off the surplus. At the other extreme, if the surplus is five months, housing demand is only 1.650 million a year and housing starts rise to 1.550 million, it will take eight months to work off the surplus.

So the housing market will be back in equilibrium sometime between January and June. Our estimate is sometime in the spring. Until then, construction materials sales will remain depressed with little growth from recent sales.