Rising Home Sales Are Not a Harbinger of Housing Market Recovery

Commentators have been focusing on rising home sales as an indication of health in the Bay Area housing market. But those rising sales have been accompanied by sharply lower prices. Or to put it more accurately, rising sales have been caused by sharply lower prices. Take a look at the chart, below, which provides a schematic picture of what I'm talking about.

Market equilibrium occurs when supply equals demand. This is indicated in the chart by the intersection of the solid blue and purple lines. The supply of for-sale homes has risen significantly over the last year or so, due to heavy sales of bank-owned homes. This is indicated in the chart by the dashed blue line, which sits to the right of the original supply curve.

As long as demand is stable, you can always sell more of your product if you reduce the price. Falling prices do in fact seem to have stimulated demand for homes in the Bay Area, suggesting that demand may be stabilizing. That's better than falling demand, but it's hardly a sign of recovery. A true recovery in the housing market will be marked by rising demand.

How will we know when that happens? In the schematic picture above, rising demand would be indicated by moving the demand curve to the right.

The new equilibrium is marked, not only by higher sales, but by higher prices as well. The picture won't be quite as simple if supply is still rising (then the blue line would move to the right as well), but you get the idea by now. As long as prices are still falling, it will be difficult to argue that the housing market is recovering.

Continuing Deterioration in Residential Construction Bodes Poorly for the Economy

The Commerce Department just released its April report on new residential construction. Housing starts fell to a 50-year record low of 458,000 units. That's 13% lower than the figure for March, and 54% lower than the figure for April of last year. The number of permits for new construction also fell to a record low of 494,000. That's 3% lower than the figure for March, and 50% lower than the figure for April of last year.

The recent declines in housing starts and permits are wholly the result of reduced activity in the multi-family (apartment) sector. Many writers have made much of the fact that single-family activity is actually picking up (however slowly). That seems like wishful thinking. Demand for housing won't recover as long as the economy is losing jobs at a rapid pace. And residential construction activity has actually been a very good leading indicator of overall economic activity. Continuing rapid deterioration in this sector suggests that the broader economy is still deteriorating, and that an upturn in housing demand is still some ways off.

Report Shows Continuing Weakness in City Economy

The San Francisco Controller's office just released the March edition of its Monthly Economic Barometer. It's a great place to find quick-and-dirty statistics about the City's economy. The latest batch of numbers are discouraging:

• The March unemployment rate was 9.0%. That's the highest rate since 1984. A year ago, the unemployment rate was 4.3%.
• The median home price fell 3.6% from February, and 19.3% from last year. (The current median price is $617,000. The record of $835,000 was achieved in May, 2007.)
• Apartment rents fell 1.6% from February, and 8.1% from last year.
• Commercial rents fell 13% from February, and 22% from last year.
• Hotel occupancies fell 5% from February, and 14% from last year.

Those are the highlights. The rest of the report is equally disheartening. You have to be dyed-in-the-wool optimist to find any good news in it.

If you want to read the next Monthly Economic Barometer when it comes out, you can find it here.

Deterioration of the High End Housing Market

The Chronicle ran a front page story about the Bay Area housing market in Sunday’s paper. The gist of the story was that the high end of the market is showing signs of distress, and is beginning to deteriorate.

The article was partially correct: there has indeed been a notable change in the high end of the market, but it’s premature to attribute that change to distress. And it’s inaccurate to claim that the high end of the market has only recently begun to deteriorate.

Let’s start with what’s happened recently. Take a look at the chart, below, which shows historical listing activity for single family homes in District 7 (which is a good proxy for the high end of the San Francisco market).

The blue bars indicate the number of new single family home listings in each year. (The figure for 2009 was obtained by annualizing year-to-date listings through the end of April and applying a minor correction for seasonality.) The purple line indicates the median asking price for those new listings. Together, these series provide a historical overview of the supply side of the market.

After several years of restrained activity, listings in District 7 bounced back strongly in the first four months of 2009. Meanwhile, asking prices continued their recent downward trend. The latter observation suggests that the sharp increase in listing activity is being driven at least partially by recent economic turmoil, rather than any renewed sense of opportunity. Keep in mind, however, that the number of listings is high only in comparison with the last few years. When compared to pre-2005 levels, listing activity is merely average. So it seems premature to conclude that owners of high-end homes are suffering from financial distress.

So much for the supply side of the market. What about demand? Contrary to what the Chronicle article suggested, demand for high end homes has been deteriorating for at least two years. Take a look at the chart, below, which shows historical sales volumes for single family homes in District 7.

Sales volumes in District 7 have fallen in every year since 2004. As long as prices were rising, declining sales could be attributed to higher asking prices (i.e., tighter supply). When prices began to decline in 2007, however, it became clear that demand was declining as well. (See this earlier posting for a cartoon picture that lays out the reasoning.) The rate of deterioration appears to have accelerated in 2009, but it’s incorrect to suggest that demand is only now beginning to suffer.

The inventory of high end for-sale homes in the Bay Area has climbed significantly in the last year, and now exceeds a year’s worth of supply. The Chronicle seems to have attributed the higher inventory entirely to the sharp increase in listing activity. If the rest of the Bay Area is like San Francisco, however, the increase in listing activity has merely returned listings to a level that would have been considered normal a few years ago. It therefore seems premature to conclude that high end sellers are ‘distressed’. And by ignoring the steady fall in demand over the last two years, the article reaches an overly dramatic conclusion, namely, that distress has suddenly overtaken the high end of the market. The reality is less exciting than that.