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A Standard Season for Housing

By Michael Englund and Rick MacDonald With investors keenly watching for signs of weakness in the vitally important housing sector, the October existing-home sales report, released Nov. 28, may have provided some fodder for the pessimists. Sales declined 2.7% on the month, to a 7.09 million unit annualized pace -- below economists' median forecast of a 7.185 million rate.

But it helps to have a bit of perspective. Though diverging descriptions of current U.S. housing market conditions remain the norm, the October report reinforces the view that fourth-quarter weakness in the sector thus far entirely reflects the usual seasonal pattern, with little evidence in official reports that a turn in this market is near.

INVENTORY JUMP. A bigger surprise in the October report than the drop in sales was the pop in the median home price to $218,000, which leaves prices just slightly below the record $220,000 median from August. These figures aren't seasonally adjusted, and there's a strong seasonal tendency to see about a 6% rate of decline in fourth-quarter median prices -- which is, oddly, failing to materialize this year.

This strength exists despite massive price gains earlier in the year that might have been expected to result in an usually large seasonal correction for the fourth quarter. The price strength for the current quarter explains the surge in year-over-year median price growth, to 16.6%, in October.

Inventories jumped 6.4% on the month, to a new high of 2,868,000 -- the highest level since 1986 -- with inventories now sitting 16% above year-ago levels. Months-supply rose to 4.9 months from 4.6 months, with condo months-supply surging to 5.5 from 5.1, while single-family increased to 4.8 from 4.5.

TIME OF THE SEASON. Though a higher inventory of homes is raising concern, a rise in inventories amid sizable price gains is hardly surprising. Consider the massive ramp-up in the size of the existing-home sales market during the second and third quarters, to above a 7 million unit rate, which topped virtually all market forecasts at the start of 2005.

As we noted earlier this month, existing-home sales prices usually exhibit a fairly consistent seasonal pattern of fourth-quarter declines (see BW Online, 11/9/05, "Don't Let Housing's Seasons Scare You"). This year, we appear to be seeing an atypically small quarterly decline -- at least through October -- which is notably at odds with market fears that a correction in housing prices is under way. Relative strength in prices in the South suggest the hurricanes may be boosting activity in that region -- hence dampening the usual seasonal swing.

Real estate activity overall is showing the usual seasonal slowdown, with all the typical characteristics of reduced transactions volume, longer time on the market, multiple-bid situations, etc. There are analysts each year who use these anecdotal reports from the sector, combined with declines in the median home prices -- which aren't seasonally adjusted -- as evidence that the sector is "turning." Yet after accounting for the normal seasonal pattern, there remains little evidence of an atypical adjustment in the sector thus far, despite market chatter.

CALLING THE TOP. More generally, the housing data continue to show broad-based strength in sales in regions both with and without "bubble" effects. In particular, the concentrated strength in sales in the South, which accounts for half of the national housing market and which isn't dominated by the "bubble" effects that have preoccupied the financial markets, leaves little room for a significant slowing in the sector, even if prices in some concentrated urban markets decline.

Note that sustained high levels of activity in the South in both September and October suggest that the hurricanes are having a modest positive impact on sales, as well as price.

In total, we see price gains for homes in the Northeast and West as historically large, but not unprecedented, and prior boom periods have extended well beyond the emergence of public perception that prices in these markets are too high. Though such an assessment is likely correct for some urban markets, calling the top won't be easy until we see signs that price declines are actually emerging. Any pop in the bubble may not occur until 2006 -- or even 2007, depending on the course for Fed policy and market interest rates.

Englund is chief economist, and MacDonald global director of investment research and analysis, for Action Economics

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