Housing in Canada: A Tale of Two Markets

Guest post by Norman Mogil


Canada’s housing market has diverged in recent years: Vancouver and Toronto joined other international real estate markets such as New York, London, and Sydney, while prices in other major cities remain subdued. Vancouver and Toronto housing now costs double that of comparable homes in Ottawa, Montreal and Calgary as the two most expensive cities continue to experience the fastest increase in prices and pull further away from all other regions in the country. Let’s look at the changes in buyers, housing stock, and credit creation that are behind this tale of two markets.

Table 1: Real Estate Prices in Canada 2014-2015

Source: Canadian Real Estate Assoc. July, 2015

Stable Housing Supply

Unlike the US, Canada has no recent history of overbuilding. The ratio of housing starts to household formation is roughly in balance at 1.2 starts per formation, which has allowed Canadian construction to avoid the boom/bust cycle often associated with housing. Furthermore, stable housing supply reduces the risk to lenders and has encourages continued orderly expansion of the housing stock. Since housing supply has not driven climbing prices in Vancouver and Toronto, we focus on housing demand below.


Population Changes

Canada is a "young" country. The working population is one of the most important components of housing demand. Chart 1 compares the working age population (ages 15-64) as a percentage of total population. Canada’s working age population is nearly 69% of the total population and exceeds the ratio in the US and the average for all OECD countries. Furthermore, the population aged 25-34 is growing at a rate of 2% y/y ; the age group of 30-34 is growing at even a faster rate of 2.6% y/y. These groups underpin the market of first-time buyers ^1.

Chart 1:  Working Age Population as a % of Total Population

Source: OECD

Immigration accounts for about 75% of the population growth in Canada . Over half of Canada’s 260,000 annual immigrants make their way to Vancouver and Toronto alone. Recent work by CIBC reveals that immigrants aged 25-45 years have dominated the estimated 770,000 non-permanent Canadian residents. Moreover, immigrants living in Canada for more than 10 years have a higher rate of home ownership than native Canadians, thereby exerting more demand pressure ².

Table 2: Housing Starts in Canada 2010-2014

Source : Statistics Canada

Credit-driven Growth

Total mortgage lending has increased by 30% since 2010, primarily attributable to commercial bank lending. In the past 6 months, the banks have eased off on this growth pattern, but levels remain relatively high. As non-bank funders also aggressively move into this market, both builders and buyers are finding easy financing.

Chart 2

Source : Statistics Canada

Credit growth has not been isolated to mortgages. Statistics Canada shows that household debt including mortgages, consumer credit, and non-mortgage loans reached 163 per cent of disposable income as of June 2015. The IMF warns that “although household debt levels appear to have stabilized recently, they have increased to historical highs in the past decade... one of the highest among countries of the OECD.” Just as easy credit allowed Canadian households to enter the housing market and push prices higher, there is now concern that high debt poses the risk of a major housing market correction. By way of comparison, US ratio of debt to real disposal income reached 172% in 2014. Canadians are less indebted than their American neighbours.

Debt should always be measured against assets to get a measure of the degree of risk assumed (Table 3). In real terms, the growth of household debt did accelerate to an annual average rate of 5.3% in 2000-2011, compared to 3.1% , in the 1980s, and 3.7%, in the 1990s. However, the ratio of debt to assets has barely changed. In the 1980s it stood at 16% and now it averages 17.6%. Overall, the accumulation of household debt has kept in line with the growth of household wealth . Put differently, Canadians have not increased their leverage from prior decades in any meaningful way. Finally, given that current interest rates are at a historical low, debt service is within a manageable range. And, with no anticipated interest rate increases, these debt levels do not pose a threat to the housing sector.

Table 3: The Growth of Household Debt and Assets 1980-2011, Canada *

The Influence of Foreign Capital

Canada continues to benefit from inflows of international capital. Investors from Hong Kong and mainland China have been buying up real estate in Vancouver and Toronto, contributing to the bidding wars in both cities. While there are no official data documenting purchases by non-residents, realtors have provided statistics and anecdotal evidence to support this argument. We must caution the reader that much better data and greater research are needed before any conclusions can be reached regarding the role of Asian investors in influencing housing costs in Canada.


More Fuel is Added

The pressure on the housing market in both Vancouver and Toronto contradicts Canada’s oil-driven economic slowdown over the past six months and has complicated the Bank of Canada’s recent monetary policy decisions . The central bank has cut rates twice this year. In its latest move, the BoC stated:

“Of particular note are the vulnerabilities associated with household debt and rising housing prices. And we must acknowledge that today’s action could exacerbate these vulnerabilities.”

The Bank recognized that, although its policy moves were necessary to stimulate overall growth, it runs the risk of further inflating Vancouver and Toronto housing markets.


Is There is a Correction Coming?

The rise in house prices has prompted many analysts to say that a correction is inevitable. Simply put, they argue that growth in market demand is unsustainable and thus a major correction must follow. Before arriving at that conclusion, it is important to bear in mind that both cities feature:

1. Diversity in employment and industrial makeup, so that they can weather a downturn in oil and other commodities , as they did in the oil crash of mid-1980s;
2. Population growth will continue at the current rates and there is no sign of change in government policy regarding immigration flows;
3. Interest rates not only remain low, but show no sign of increasing given the current economic environment, eg 5 year mortgage rates are 2.50%;
4. And, both cities face land scarcity, especially in the core areas.

Conclusions 

1. Canada has a split housing market; Vancouver and Toronto, overwhelming skewed the average home price in the Canada; looking at the rest of Canada, prices are stable and values remain relatively low.

2. The growth in housing stock has risen to match the growth in population and household formations; there is a relatively good demand/supply balance in place.

3. Household debt measured against the growth in assets indicates that the ratios today are within the historical averages.

4. There is concern, however, should the Canadian economy weaken further and employment and growth deteriorate that housing prices and values could be at risk.


 _____________________
¹ Robert Kavic, Business in Canada, April 14, 2014
² Benjamin Tal and Andrew Grantham CIBC, “Many Faces of the Canadian Housing Market” June, 2015

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Think homebuilder optimism is irrational? Think again.

The chart below (and similar comparisons) has been circulated widely in the media and the blogosphere. It shows homebuilder optimism (as measured by the NAHB) far outpacing sales of singly-family homes in the United States. Naive reporters and bloggers have been arguing that builders are simply out of touch with reality. How could homebuilders possibly be almost as optimistic as they were prior to the housing recession if new single-family home sales are near multi-decade lows?

Source: @cigolo, Reuters

There are a couple of key reasons for the NAHB index decoupling from new single-family home sales:

1. Builders are targeting higher-end and luxury homes - a market where mortgage availability is less of an issue. That it why the median price of new homes sold is far above the pre-recession peak and continues to rise.

Source: @NickTimiraos

2. US homebuilders are also focused on multi-family structures - rental as well as some high-end condos.

Source: @NickTimiraos

Tighter credit conditions and some consolidation have resulted in reduced competition among homebuilders, with a number of local and regional players closing down after the recession. At the same time rental housing demand is on the rise (see post). Those well positioned in this space will do fine. Therefore, while it is quite popular to poke fun at the "giddy" homebuilders, one should rest assured these businesses are acting quite rationally. And so are their investors. Homebuilder shares have outperformed the broader market since the October correction (see chart).

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Gauging the trajectory of the US housing market

One set of economic data that shocked some economists last week was the existing home sales report. In spite of sharply higher mortgage rates, sales rose in August.

Source: Econoday

NYTimes: - Sales of existing houses climbed 1.7 percent in August to a six-and-a-half-year high, and factories grew busier in the mid-Atlantic region this month, providing signs that rising borrowing costs are weighing only modestly on the economy.

The National Association of Realtors said on Thursday that existing houses were selling at an annual rate of 5.48 million units, the highest level since early 2007, when a housing bubble was deflating and the economy was sliding toward its deepest recession in decades.

The report surprised analysts who had expected higher interest rates would lead to a decline in resales. Mortgage rates have risen more than a percentage point since the Federal Reserve’s chairman, Ben S. Bernanke, hinted in May that the central bank could begin reducing its economic stimulus soon. On Wednesday, however, the Fed said it would maintain its $85 billion monthly purchases of Treasury and mortgage-backed securities.

One could argue that home-buyers are ignoring higher rates, but that doesn't seem likely. Is this spike driven by capitulating buyers who had been waiting on the sidelines for mortgage rates to drop? That strategy had certainly worked in the past and buyers are realizing that this time it's different.

One reason to think that the jump in existing home sales is transient is the decline we've seen in new home sales - which most are attributing to higher rates. The divergence shown below is unlikely to be sustainable.

The August number for new home sales (to be released this Wednesday, 10AM ET) will be critical to gauge the trajectory of the US housing market. On Thursday we will also be getting the pending home sales index that should provide a glimpse into sales going forward.

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From our sponsor:

Ecstatic homebuilders having trouble selling homes - what's wrong with this picture?

Today's news of a sharp decline in new home sales has left many economists scratching their heads, trying to understand the trajectory of the US housing market. And here is what they are struggling with:

With the homebuilder survey showing tremendous optimism while new homes not selling well, there is clearly a disconnect. Just as other economists, Goldman's research team is having a tough time reconciling the two. GS also points out that new home sales represent a somewhat more timely indicator than the existing home sales number - which was quite strong in July (see this post).

GS: - Based on contract signings rather than closings, new home sales are a slightly more timely indicator of housing activity than the stronger-than-expected July existing home sales data released earlier this week. The recent weakness is concerning in light of the rise in mortgage rates in recent months and drop in new purchase mortgage applications. However, the weakness in new home sales stands sharply in contrast to the NAHB homebuilders index, which points to more favorable prospects for housing starts and new home sales in coming months.

In spite of the conflicting data, Goldman's research team decided to downgrade its forecast for the 3d quarter GDP to 1.8%.  Long-term interest rates may be having a far deeper impact on the economy than previously thought.

It is worth mentioning that this forecast does not bode well for the success of the Fed's latest round of monetary easing:

• Including the current quarter and Goldman's forecast above, the 4 quarters since the start of QE3 have generated 1.2% average annualized GDP growth in the US.
• The 4 quarters immediately prior to QE3 have generated 3.2% annualized GDP growth.

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From our sponsor:

"Panicked" homebuyers rushed to close in July

We now have a confirmation that US housing demand in July was boosted by fear of higher rates (discussed here). July existing home sales spiked to a new post-recession high.

Source: NAR

NAR: - Mortgage interest rates are at the highest level in two years, pushing some buyers off the sidelines... The initial rise in interest rates provided strong incentive for closing deals. However, further rate increases will diminish the pool of eligible buyers.

The less "official" statement from NAR's Chief Economist Lawrence Yun was: "So the increase in rates I think panicked some buyers into wanting to close the deal before the rates perhaps would rise further. The initial phase of an interest rate increase generally provides a sense of urgency to close."

Clearly this demand can not be sustained going forward and we should see a decline in sales in the next few months.

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From our sponsor:

Who said you have to own 100% of your house?

Stuck in a 6.5% mortgage? Would like to refinance, but don't have sufficient equity in your home?  Welcome to the wonderful world of "financial innovation". You can do what some businesses do when they are in this situation: sell "shares" in your house to investors. The proceeds can reduce your mortgage amount, potentially allowing you to refinance or at least reduce your payments.

Alternatively, you want to buy a house but don't have 20% to put down? No worries - buy your house as a "joint venture" with investors. Who said you have to own 100% of your house in order to move in?

Who are these investors willing to co-own your house? Anyone who wants a piece of the housing market. This strange investment platform is called PRIMARQ (see overview below). When the house is sold and the bank is repaid, the investor and the "homeowner" share the proceeds. Investors can participate in specific neighborhoods or types of properties or invest in a diversified pool.

It's a levered bet on the housing market that has some incremental risks. If the house price declines to the point where there is little equity left, the homeowner has an even greater incentive to walk away than before. That's because the homeowner has given up some of the upside in the home to the investor. And the upside is sometimes the only thing that keeps homeowners from walking away - they believe they can eventually recoup some of their investment. With nobody living in the house and paying the mortgage, investor's options become limited. Investors will have the right of first refusal to purchase the property assuming it has any value after the mortgage is paid off. Primarq also has insurance products to provide some protection, but that eats into the returns. As one can imagine, liquidity in this type of investment is also a bit of an issue. While one investor can sell her holdings to another, only the homeowner decides when she wants to sell the house.

For those brave souls who believe the housing market will outperform other asset classes in the next few years, this is a "pure play" investment. Most people in the US however already have a large chunk of their net worth tied in this market, and incremental exposure could be unwise.

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From our sponsor:

Is the US facing a housing shortage?

Homes available for sale as well as the housing supplies measured in months are now at pre-recession levels, while household formation continues to recover (see post). This development was predicted by William Wheaton back in 2009.

Source: JPMorgan

Forbes: - Most striking however is the fact that inventory has contracted to its lowest level since December 1999, more than 13 years ago. The number of available homes, which is not seasonally adjusted, fell 4.9% from December and is 25.3% lower than a year ago. With 1.74 million homes on the market, at the current sales pace, supply will be exhausted in just over four months. It represents the lowest housing supply since April 2005. In a normal market, a healthy supply level is about six months.

A number of economists continue to talk about the shadow inventory - the millions of homes that are "about to hit the market" as homeowners have or shortly will fail on their mortgages. Some evidence suggests that in the more depressed housing areas banks are indeed sitting on foreclosed properties, unwilling to sell. But a number of banks have also been aggressively modifying mortgages, reducing principal and interest, and therefore cutting delinquencies.

Clearly many more homes will be hitting the markets this year. But it really doesn't make much difference if people who move out of these homes end up buying or renting - they need to live somewhere. And according to the Census Bureau, rental vacancies are near a 10-year low.

Ironically, the relatively tight credit conditions are (at least partially) restricting new home construction. Completion of new housing units has improved recently but remains at historically depressed levels - certainly not enough to keep up with the population growth and family formation. The danger of course is that with spring approaching (generally a period of increased demand for homes), some markets could overheat due to tight supplies, worsening home affordability and dampening sales numbers.

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From our sponsor:

Mortgage Purchase Index the highest since 2010

As discussed earlier (see post), mortgage rates have bottomed. In spite of that, mortgage activity for home purchases (as opposed to refinancing) has risen to the highest level since 2010. The chart below shows 30y fixed mortgage rate relative to the "Purchase Index" - a measure of mortgage applications to buy a home. Mortgage rates are still near historical lows, with small increases unlikely to deter buyers.

Source: Mortgage News Daily

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From our sponsor:

US housing supply demand curve still bullish

Guest post by Lee Adler (The Wall Street Examiner)


CoreLogic reported today that existing home sales prices officially recorded in October (probable contract average August) rose 6.3% year over year. Corelogic also collects MLS data on contract prices from which it calculates a pending home sales price index. That index portends that closed sales in November will be up 7.1% year over year. These numbers are within the range of other recently reported US national housing price trend indicators.

The following is an excerpt from the Wall Street Examiner Professional Edition Housing Report. In the current issue, I looked at a new indicator from the NAR that appears to be a decent proxy measure for supply and demand.

US housing update: shrinking inventories

US residential housing supplies remain at multi-year low levels. The inventories of unsold homes as measured in months (time to clear the inventory) are at the lowest level since 2006.

Source: JPMorgan

To put things in perspective, here is what the situation looks like compared to the previous 3 years.

Source: JPMorgan

This supply of homes is constrained by weak residential construction. The chart below compares residential construction growth in the US to previous recoveries.

Source: Barclays Capital

This is starting to stabilize prices even in areas that have witnessed relentless house price declines, such as Southern California. What's interesting is that we are seeing a shift from the heavily discounted or distressed sales to the more normal "move-up properties".

DQ News: - La Jolla, CA---The median price paid for a Southern California home rose again in September to a more-than-four-year high, the result of affordability-driven demand meeting a modest supply of homes for sale, and a big change in market mix. For the first time in nine months sales declined compared with a year earlier as low-end deals fell and foreclosure resales hit a nearly five-year low, a real estate information service reported.

The median price paid for a home in the six-county Southland climbed to $315,000 last month. That was up 1.9 percent from $309,000 in August and up 12.5 percent from $280,000 in September 2011, according to San Diego-based DataQuick.

Last month’s median price was the highest since the median was $330,000 in August 2008. The Southland median has risen month-to-month for eight consecutive months and has increased year-over-year for the past six months.

The median sale price has risen mainly for two reasons. First, higher demand, triggered largely by ultra-low mortgage rates, has coincided with a dwindling supply of homes for sale. Second, there’s been a big change in the types of homes selling this year. Far fewer are heavily discounted foreclosures, and many more are mid- to high-end move-up properties.

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The US housing market is not "a chicken-and-egg problem"

An article appeared in the NY Times last week that describes the sad state of the US housing market as a closed system that is stuck in a "negative feedback loop":

NY Times: - The economy will not recover until the housing market recovers, and the housing market will not recover until the broader economy recovers — a chicken-and-egg problem reflected, once again, in national housing figures.

And that may indeed be the case if it wasn't for the US demographics. It's hard for many to accept the fact that the US population did not stop growing after the financial crisis. At the same time new home construction has stalled, forcing inventories to shrink. The author of course argues that there is a massive number of homes yet to hit the market - people are just waiting until their equity values turn positive.

NY Times: - High unemployment, poor jobs, stagnating wages and tight lending standards keep buyers away, while many sellers — especially the estimated 13 million homeowners who owe more on their mortgages than their homes are worth — are waiting for a price rebound.

Of course there are millions waiting to sell their home. But once these homes are no longer "underwater" and the owners sell them, where are they going to move? The sellers will go out and buy another home - maybe somewhere else in the US. Some argue that many families will start renting once they get rid of their "underwater" house. Unlikely, but those who do will find a tight rental market - there are not many homes for rent and rents are up materially. And to put more rental homes on the market the landlords have to buy these properties somewhere - taking them out of the available inventory.

The point is that the US demographics now drive the housing market - more so than the US economic growth. It is not the closed system that the NY Times describes because the demand grows with population. With new home construction remaining weak, there are simply fewer places to live - only so many people can live in someone's basement. Available housing inventory per working-age person in the US is now at a 30-year low (at least).

Source: ISI Group

It is not "a chicken-and-egg problem". The housing market and the US economy are now far less coupled together than in the past, when strong housing markets generated construction based growth. And just as demographics more than the economy now drive improved demand for homes, a better housing market will not have the same positive impact on the economy as it did before the financial crisis. 

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US housing inventory at post-crisis lows

As discussed earlier the US housing recovery is progressing, albeit quite gradually, as the unsold inventory of homes continues to decline.

Barclays Capital: - We continue to see conditions in the existing home market as putting downward pressure on inventories and as supportive of a gradual cleansing of shadow inventory. Our view is that housing is in a recovery phase, but one that will be restrained by the availability of credit, pace of improvement in labor market conditions, and overhang from distressed and foreclosed properties.

Source: Barclays Capital

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DB: Excesses of the “housing boom” have been largely eliminated

DB's latest analysis confirms that US housing price stabilization is now taking place (as predicted here back in January) as inventories continue to decline. The chart below shows the ratio of homes for sale to the total number of households.

Source: DB (NAR, Census, Haver Analytics DB Global Markets Research)

DB: - Much of the economic data has taken a turn for the worse over the past few months, but the housing sector data has largely proved resilient in the face of a sputtering labor market and mounting economic uncertainty. The housing sector fell into decline sooner than the broader economy ahead of the 2007-2009 recession, and it took longer to regain traction. However, our analysis indicates that the excesses of the “housing boom” have been largely eliminated, whereby a lasting recovery can proceed so long as overall economic momentum and income growth are not disrupted in any meaningful way.

The fact remains that new home construction is proceeding at half the rate it should be to keep up with growth in the number of households. The inventory of new homes is now at the lowest level since this data series was started back in 1963.

New single family homes for sale in the US (thousands of units)

Again it is important to point out that this improvement in the US housing market is a result of falling supply due to demographics rather than improved demand driven by the economy. And certainly rising rents coinciding with rapidly declining mortgage rates (affordability) make the choice to buy a home that much easier.

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Over 2.5 million delinquent mortgages to be resolved this year; shadow inventory shrinking quickly

In spite of the fear mongering taking place in the media and in the blogosphere with regard to the US housing "shadow inventory", considerable progress is being made in shrinking the oversupply of distressed properties around the country.

CoreLogic: -

• As of April 2012, shadow inventory fell to 1.5 million units, or four-month’ supply and represented just over half of the 2.8 million properties currently seriously delinquent, in foreclosure or REO.
• The four-month’ supply of shadow inventory is at its lowest level in nearly three years. It parallels the unsold months’ supply of non-distressed active listings that hit a more than five-year low in April, falling to a 6.5-months’ from a 9.1-months’ supply just a year ago.
• Of the 1.5 million properties currently in the shadow inventory, 720,000 units are seriously delinquent (two months’ supply), 410,000 are in some stage of foreclosure (1.1-months’ supply) and 390,000 are already in REO (1.1-months’ supply). 
• The dollar volume of shadow inventory was $246 billion as of April 2012, down from $270 billion a year ago and a three-year low.
• Serious delinquencies, which are the main driver of the shadow inventory, declined the most in Arizona (-37.0 percent), California (-28.0 percent), Nevada (-27.4 percent), Michigan (-23.7 percent) and Minnesota (-18.1 percent).

Source: CoreLogic

It is important to note that the CoreLogic numbers exclude homes that are already listed in the market - it only shows the "shadow" (unlisted) inventory. That means that the overall inventory of distressed homes is far greater than the chart above shows (maybe 2 to 2.5 times that number).

Two key components are impacting the decline in shadow inventory:

1. A smaller portion of loan delinquencies now results in a sale due to the various loan restructuring programs and
2. the inventory has been hitting the market much faster than people anticipated.

The pie chart below is the projection from JPMorgan of how delinquent mortgages in the US will be resolved this year.

Source: JPMorgan

Here is what this breakdown tells us:

1. Not all of the "shadow inventory" is expected to hit the market.

JPMorgan: - ... increased modification efforts and other foreclosure alternatives should remove a sizable amount of inventory ... In addition to the ongoing HAMP and proprietary mod programs, which were pacing at around 500,000 loans annually at the end of 2011, increased incentives to HAMP forgiveness, relaxing DTI [debt-to-income] requirements, and requirements to forgive principal in the AG [Attorney General] settlement should boost modifications by hundreds of thousands more loans. In all, we expect over 1mn loans to be modified in 2012.

2. Short sales are becoming a larger part of liquidations, putting the inventory on the market much faster.

JPMorgan: - ... servicers have been aggressively pursuing short sales as a lower severity alternative to foreclosure; short sales are nearly half of liquidations now.

3. REO bulk sale and rental programs will reduce the inventory further.

Overall some 2.5 million loans will be resolved this year. Note that a good percentage of these 2.5 million homes is already listed in the market and therefore is no longer included in the shadow inventory number. Nevertheless this year's mortgage resolutions are expected to materially reduce the supply.

JPMorgan: - ... All in, we think over 2.5mn loans could be resolved this year, putting a major dent in inventory. Of course, given the large supply and volume of continuing delinquencies, we expect it will take years to work through all the defaults, but significant progress is being made, which gives us reason to be more bullish on housing than we have been for years

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Housing affordability

Here is an interesting chart form Barclays Capital that measures the US housing "affordability". They take the ratio of median home price to median family income and compare it to the "pre-bubble" average. By this measure we are around the levels of the early 90s housing recession.

US housing affordability (source:  Barclays Capital)

    

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Distressed vs non-distressed housing market bifurcation

Some readers have pointed out that the improvement in the housing market they are seeing has been in better neighborhoods and for non-distressed properties. There is no question that we have a bifurcated market.

Non-distressed properties are down on average 25% from the peak while the distressed property market is down 40%. As the chart below shows, the non-distressed segment has shown far more (relative) price stability than the overall market.

Source: Morgan Stanley Research.(also DataQuick ; using Repeat Sales methodology)

 

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Pending home sales stronger than expected

Slowly but surely the US housing market is climbing out of that deep hole it was in for some time. Pending home sales came in way above expectations (5.9% MoM vs. 1.5% expected).

US Pending Home Sales Index (SA)

A couple of things worth noting about the pending home sales chart above.

1. Contrary to popular belief, the housing recession started in 2007, possibly even in 2006, not after the Lehman crash in 08.
   
2. The First-Time Homebuyer Credit stimulus program had a tremendous impact on home sales. It tells us that tax incentive programs are quite effective but have a short "half life".

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With existing home inventories tight, new home sales have stabilized

New single family home sales in the US rose more than expected during May.

Reuters: (Reuters) - New single-family home sales surged in May to a two-year high and prices rose from a year ago, further signs the housing market recovery was gaining some momentum.

The Commerce Department said on Monday sales jumped 7.6 percent last month to a seasonally adjusted 369,000-unit annual rate, the highest since April 2010.

That was well above economists' expectations for a 346,000 pace and the highest since April 2010, when sales were inflated by a homebuyer tax credit.

This provides further evidence to recent reports of tight inventories in the existing single family home markets.  People are not in a rush to sell existing homes at low prices and the shadow inventory is not flowing into the market at the rate some have been expecting (while "shadow demand" is growing). Tighter inventories in the existing home markets are increasing demand for new homes.

Clearly this volume looks puny relative to recent history. Also anecdotal evidence suggests that homeowners are waiting for prices to firm up to sell, thus limiting the rate of appreciation (at each price point, new exiting home inventory will enter the market). Nevertheless it seems that new home sales have now stabilized.

US New One Family Houses Sold  -
Annual Total SAAR (U.S. Census Bureau;
Note: the spike and drop in 2010 is due to the First-Time Homebuyer Credit)

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US housing: shadow supply meets shadow demand

One of the negative economic surprises this morning was the existing home sales number which dropped 1.5% in May. Not a real surprise, right? Slowing economy is resulting is slower sales. But it turns out there is something else afoot here. According to NAR, sales have slowed because of  housing supply shortages.

NAR: - Limited supplies of housing inventory held back existing-home sales in May, but sales maintained a strong lead over year-ago levels and home prices are on a sustained uptrend in all regions, according to the National Association of Realtors.

Total existing-home sales1, which are completed transactions that include single-family homes, townhomes, condominiums and co-ops, declined 1.5 percent to a seasonally adjusted annual rate of 4.55 million in May from 4.62 million in April, but are 9.6 percent above the 4.15 million-unit pace in May 2011.

Lawrence Yun, NAR chief economist, said inventory shortages in certain areas have been building all year. "The slight pullback in monthly home sales is more likely due to supply constraints rather than softening demand. The normal seasonal upturn in inventory did not occur this spring," he said. "Even with the monthly decline, home sales have moved markedly higher with 11 consecutive months of gains over the same month a year earlier."

There are broad-based shortages of inventory in the lower price ranges in much of the country except the Northeast, and in the West supply is extremely tight in all price ranges except for the upper end.

Is that possible? What happened to the "shadow" housing inventory ("millions" of homes)?

NAR: - "Realtors in Western states have been calling for an expedited process to get additional foreclosed properties onto the market because they have more buyers than available property," Yun added. Widespread inventory shortages also are found in much of Florida.

Is the shadow demand finally catching up with the supply? House prices for actual transactions are indeed showing signs of improvement. FHFA House Price Index was up again, an increase of 0.8% for May.

Source: JPMorgan

JPMorgan: - The FHFA house price index rose 0.8% samr in April and is up a cumulative 3.1% over the past six months. The more widely followed Case-Shiller house price index is out next Tuesday. House prices are firming after an extended post-homebuyer tax credit downleg.

We are still getting hate mail for this post on US housing from the beginning of the year. But the data above is becoming more difficult to argue with.

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Actual home purchases are not keeping up with pending home sales

Today we saw stronger than expected pending home sales in March from the National Association of Realtors.

Bloomberg: The index of pending home purchases rose 4.1 percent to 101.4, the highest level since April 2010, after a 0.4 percent gain in February that was revised from a previously estimated 0.5 percent drop, the National Association of Realtors reported today in Washington. The median forecast of 43 economists surveyed by Bloomberg News called for a 1 percent rise in the measure, which tracks contracts on previously owned homes.

This is great news for the housing market, but there is a problem. Typically the pending home sales index leads existing home sales by a month or two. But recently the actual closings have not kept up with this index and the gap has gotten wider. Here are the two indices from 2002.

And here are the same two indices over the past year.

It shows that many pending transactions never make it to closing. The only explanation for this is the persistence of tight credit conditions in the housing market, with buyers unable to obtain adequate financing in order to close. This is in spite of record low mortgage rates.

Within a month or two we should know if there have been improvements in the rate of closings. If so, we should see existing home sales pick up sharply. But given the recent history of the two indicators, this improvement is far from certain.

SoberLook.com