January home sales a pleasant surprise. Don't expect rally to last.
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The year has seen a surprisingly good start for home sales as existing home sales marched upward in January to reach a near-decade high. The 5.69 million annualized pace, reported Wednesday by the National Association of Realtors, is the strongest monthly report since February 2007.

The gain was a surprise because lower sales generally prevail in an environment of low inventory and deteriorating affordability conditions. Evidently, the ongoing strength in the job market, with the falling unemployment rate and wage gains, combined with a notable boost in consumer and business confidence after the very divisive presidential election, more than made up for the negative factors.

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With the Federal Reserve clearly hinting at a further tightening of interest rates, there could also have been a “rush” of serious homebuyers who wanted to close the deal before those measures come into effect.  

 

Trying to make further meaningful gains in housing could be tougher in the upcoming months. The ongoing inventory shortage will drag the market to slow down — not a good thing for consumers or the economy. At the end of January, there were only 1.69 million homes available for sale, representing only 3.6 months supply.

A normal, balanced market is associated with six to seven months supply. An inventory shortage means fewer consumer choices and upward pressure on home prices. The national median home price rose 7.1 percent in January from the prior year, easily double the pace of an average person’s wage gains.

Rising home prices bring about both good and bad sentiments, depending on whether you're a homeowner or a renter. But, at this stage of the U.S. economy, with the homeownership rate essentially at a 50-year low, it is less healthy for home price growth to consistently outpace people’s income growth — as has been the case for the past five consecutive years.

In San Francisco, Oakland, and San Jose, where the job market is strong and home prices have made huge gains, home sales are actually falling. It is not from buyers losing their appetite, but from an acute shortage of inventory. A new listing is typically picked up by a buyer within a month (that is, very fast) but there are just too few listings.

What lays ahead for the housing market, then? Homebuilders are steadily adding more inventory. Single-family housing starts reached an 823,000 annualized pace in January, which is higher than the 784,000 in all of 2016. However, normal activity is around 1.2 million a year. Thus, homebuilders are moving in the right direction, but at a grossly inadequate pace.

Another source of inventory would be for real estate investors, who had purchased several years ago, to start unloading. Yet, due to rising rents and capital appreciation, these investors — including those Wall Street-funded institutional investors — appear to be in no hurry to unload.

Therefore, with the bottleneck in inventory likely to be the case for most of the year, home sales can only rise minimally. For the year as a whole, with the assumption of modestly higher mortgage rates (up to 4.8 percent by December from the current 4.2 percent) and continuing job creation, existing home sales will rise by only 1-3 percent.

That growth forecast translates into around 5.5 to 5.6 million existing home sales — lower than January’s pace, but higher than the 5.45 million sales last year. As for home prices, they will rise because of the shortage. The national median price may approach $250,000 within the next 18 months from the $234,000 price in 2016.

If, by some miracle, homebuilders are able to ramp up quickly, or real estate investors unload homes onto the market, then home sales will rise more strongly but with tamer and healthier price growth.

The very last thing needed in the current environment is for the government to help institutional buyers come into the market. That is why the recent announcement by Fannie Mae that it wants to securitize mortgages for single-family rental purchases, which would provide added liquidity for Wall Street companies, should be reconsidered.

 

Lawrence Yun is chief economist and senior vice president of research at the National Association of Realtors.


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