From a small northwestern observatory…

Much has been said in recent days about the Census Bureau’s August 23rd announcement about new residential home sales in July.  To summarize, 372,000 new homes were sold last month, which is 25.3% above the July, 2011.  This is good news for a lot of reasons — construction workers get jobs, banks get new loans, etc., etc.

Naturally, it begs the question, “what’s the right number of homes?”.  Here at Greenfield, we’ve posited that the U.S. housing price “bubble” was really a demand bubble, fueled by easy money, which led to an artificial inflation of the nation’s home ownership rate.  (Housing bubbles in other countries were fueled by similar problems.)  We’ve also suggested that the market won’t get healthy again until several things happen, including a stabilization of the homeownership rate at long-term equilibrium levels, a restoration of “normal” conventional lending (both for home mortgages as well as for development financing) and a restoration of the housing infrastructure (development lots in the pipeline, local regulatory department staffing, hiring & training skilled construction workers, etc.) .  It is highly doubtful that we’ll see housing starts and new home sales “bounce back” to normal levels anytime soon, and our own projections suggest several years before we get back to “normal”.

But this begs the question:  What’s normal?  (A great t-shirt from the Broadway play, “Adams Family” simply said, “Define Normal”.)  Anyway, as new home sales go, it’s helpful to glance at the experience over time.  It may surprise you.

One might actually expect the graph to be less erratic, but there are good explanations for the “bobbing and weaving” you see from year to year.  During recessions, new home sales decline, and then bounce-back afterwards.  During periods of economic overheating, the FED tightens the money supply, thus causing home starts/sales to decline.  (In practice, this is a major tool in the FED’s toolkit, simply because it has a great multiplier effect on the economy.)  Of course, the bubble is quite apparent, and following it the inevitable decline.

With all that in mind, though, we can see that there is a decided upward trend in the chart — that makes sense, since a growing population, coupled with a fairly consistent homeownership rate, will generally demand more new homes each year than it did the year before.

The second graphic adds a simple linear trend line for simplicity sake, which is not far removed from the actual household formation trend line during that same period.  Note that from the beginning of the chart until about 2001, we had a nice cycle going, and in fact around 2001, the blue line should have turned negative to account for the recessionary impacts.  However, money got very loose during the early part of the last decade, and rather than housing starts serving its normal “pressure relief” role, it was driven into a counter-cyclical path.  This created the oversupply we are now trying to work through (often referred to as the “shadow inventory”) and we won’t see a healthy market until this inventory is mopped up.

Good news, though — if you glance quickly at the second chart, it becomes clear — albeit from a very simple visual perspective — that we must be close to a spot where an up-turn in the chart would give us as much negative area red line as we had during the previous cycle above the red line.  In short, we’re not at the end of the tunnel yet, but this simple way of looking at things suggests we may be able to SEE the end of the tunnel in the not-too-distant future.