Has Real Estate Sales Activity Peaked?
Over the last month I have been discussing the deterioration in the economic data (see here, here and here). However, the one bright spot, economically speaking, has been real estate. However, that "bright spot" has come with many caveats since much of the recovery in real estate has been through "cash only" purchases of distressed homes, hedge funds buying large quantities of homes to turn them into rentals and multifamily units making up a large portion of the new construction. The recovery in housing, to this point, has not been in question - but the sustainability of that recovery is of real concern given the weakness in employment and the economic environment in general.
The latest data from on existing and new home sales show that the recovery in housing may be in the early stages of sputtering. David Rosenberg, in his latest missive, confirmed this view:
The 14% slide in the S&P 500 Homebuilding index from the March cycle highs may be telling us not to hold our breath over a near-term turnaround...And the housing indicators are part of a bigger picture of a sharp slowing in the pace of overall economic activity. Consider that three months ago 65% of the incoming economic data were coming in better than consensus views. And in the past month, the share of economic data surprising the consensus to the high side has fallen to a mere 36%.
- Household employment (-206k in March, the steepest decline in well over a year)
- (Streettalklive: This was confirmed by my employment composite index)
- Real retail sales (-0.3 in March, down for the second time in three months)
- Manufacturing production (-0.1% and also down in two of the past three months)
- Core capex orders (-3.2% in February , and again, down in two of the past three months)
- Single-family housing starts (-4.8% in March and negative for two of the past three months as well)
- New home sales (-4.6 in February)
- Philly Fed for April down to 1.3 from 2.0
- NY Fed Empire manufacturing index down to 3.05 from 9.24
- NAHB Housing Market index down to a six-month low of 42 in April from 44
- Conference Board consumer confidence index down to 59.7 in March from 68.
- University of Michigan consumer sentiment down to 72.3 for April from 78.6 - the lowest in over a year.
- Conference Board leading indicators down 0.1% in March, first decline in 7 months.
The importance of housing on the overall economy is still very small comprising just a tad more than 2.5% of overall GDP. This is as compared to durable goods or exports which, as a percentage of GDP, are vastly more important. This is one reason why, despite the continual headlines of a housing boom and recovery, that economic growth has failed to gain any substantial traction.
The latest data on existing and new home sales shows that we are likely getting close to the peak of the bounce from the bottom in housing activity seen in 2010. It is important to remember, as we have discussed previously, that there are only a certain number of individuals that, at any given time, are actively seeking to "buy" or "sell" a home in the market. Furthermore, individuals buy "payments," not "houses," so artificially suppressed interest rates are only have of the payment equation. When home prices increase to levels that begin to price buyers out of the market - activity will slow.
Finally, since many of the homes that have been purchased to date were for conversions to rental properties, when "price-to-rent" ratios reach levels of low profitability - the demand for such activity will decrease. We are likely witnessing the beginning of that slowdown.
The chart below shows the Total Real Estate Sales Activity Index (TRESAI) which is a composite of the seasonally adjusted new and existing home sales data.
It is actually quite amazing, despite the variety of government programs, ultra-low interest rates, and financial bailouts and supports implemented so far, that the recovery has been as weak as it has been. I would suggest that, as opposed to the mainstream economists, and analysts, who have been tripping over themselves to report the resurgence of the housing market, that the results have actually been very disappointing.
Another important sign that we may be close to a near term peak in activity is the NAHB Homebuilder Sentiment Index which has recently rolled over. Homebuilder sentiment has gotten well ahead of actual underlying activity (as shown by the Total Housing Activity Index) and we may see a slowdown in activity as sentiment reverses to catch up with actual underlying market activity.
While homebuilders will build excess inventory in anticipation of future sales - they have not entirely forgotten the pain they suffered in 2008. Therefore, it is unlikely that they will willingly push speculative building too far from fear of another reversion in activity. Excess inventory of homes that must be liquidated at "fire sale" prices is what crushed homebuilders previously and many have not fully recovered since.
The reality is that housing has experienced a much expected recovery from extremely oversold conditions. However, we are likely approaching an end to that bounce as the economy continues to exhibit more signs of softening in the near term. The underlying details of the housing market, in general, are not healthy. The bulk of the activity is in the creation of rental units which is a sign that the employment, wage growth and buyer confidence remains weak.
In the longer term these things are likely to improve. However, improvement is one thing; but a return of housing activity to levels where it becomes a major driving force of economic growth in the future will likely be a disappointing dream for some time to come. The excesses of what was arguably the largest housing bubble and bust in the history of the world, except for that yet to come in China, will take much more time to clear the system. Eventually that will occur. However, the future of housing is likely to look far different that what was seen during the previous boom and will likely be far less than optimists are hoping for.