Lead Story… Today I want to address one of the most annoying hot takes currently making the rounds in the financial blogosphere: the idea that today’s housing supply is not in fact all that low. The rationale goes something like this: monthly housing supply is actually higher today than it was in 2005 at the height of the housing bubble, therefore the market isn’t really as tight as is being reported As the chart below shows, this is indeed the case, at least on the surface. Supply in 2005 ranged between 4.3 and 4.9 months. Today, it sits at 5.7 months. However, this statement is also a gross oversimplification of what is really going on in the market.
So, given the above chart why do I have an issue with the way that supply is being characterized? First off, there are two components to supply: sales rate and the number of units available. Let’s say that there are 100 homes available in a city at any given time and there are an average of 20 homes sold a month (this includes new and existing inventory). In that case, the 100 homes would equal 5 months of supply. Now lets assume that a recession hits and that sales rate drops in half to 10 homes a month. In that case, the supply balloons to 10 months even though the actual units of supply didn’t increase at all. While months of supply was lower in 2005, the total number of units being sold was much higher than it is today, making the market more susceptible to a demand-crushing downturn than it is in 2017. Now, let’s take a look at both new and existing home sales:
Source: Calculated Risk
As we stand today, existing home sales have recovered some but new home sales are still way, way off from where they were in 2005. Back then, there were 7,072,000 existing homes and 1,280,000 new homes that sold for a total of 8,352,000 or 696,000 per month. For 2017, we are on track to sell 5,570,000 existing homes and only 569,000 new homes for 6,139,000 in total or 511,583 home sales per month. That means that there are a projected 26.4% less home sales for annualized 2017 than there were in 2005. In other words, 2005 had a lot more physical inventory (much of which was coming from new homes that were adding to the total housing stock) and required many more buyers to achieve it’s low supply than what we need today. That being said, there is even more to this story.
Source: Trading Economics
First off, let’s consider population. The population of the United States was roughly 295 million people in 2005. Today, it’s roughly 325 million. It’s increased 10.2% in the years in between, meaning that the difference between the number of home sales in 2005 and 2017 annualized is actually substantially larger when adjusting for the increased population size since a larger population has more people to house. Side note: some of this has been blunted by the home ownership rate falling from 69% in 2005 to 63.6% today but the number of actual homeowners is still higher today than it was back then even when taking this into account.
Source: Calculated Risk
Next, we go back to my favorite chart from Calculated Risk. Notice how the primary household formation demographic of 30-39 years old was bottoming out in 2005 but on the rise today? This suggests to me that there are more potential buyers on the proverbial sidelines today than there were in 2005 since there are more households being formed, meaning that additional supply can be absorbed in a way that it couldn’t back then. These are likely people who either can’t afford a home or aren’t ready to buy yet. However, despite the whole “young people will be renters for life” media narrative, most every study done on the subject show that Millennials do indeed want to own homes at some point.
Source: Mortgage Bankers Association
Finally, consider the issue of credit availability. The chart above, combined with the demographics chart suggest that the 2005 market was tapped out. Prime household formation demographics were waning and credit availability was off the charts. Anyone who was a potential home buyer was already in the market since financing was easy and the demographic headwind limited household formation. Compare that to today when credit is still very difficult to come by on a relative basis and we have a demographic tailwind. In other words, there is room for credit easing today while it had nowhere to go but tighter in 2005.
Although the months of supply was lower in 2005, the number of homes on the market was much greater and actual units of inventory were expanding at a quicker rate due to booming new home starts. As such, number of sales required to keep months of inventory suppressed was much higher as well. 2017 is a very different story. It has been characterized by a relatively low number of sales (especially when adjusting for population growth) and far fewer properties on the market. As such, a recession would likely have a substantially smaller impact on months of inventory than what happened in 2007/2008 when inventory shot up above 12 months as credit vanished and so did prospective buyers. I’m not writing any of this to suggest that parts of the housing market aren’t un-affordable and getting worse as interest rates rise. Instead, I’m merely suggesting that the supply situation is much tighter than the monthly supply metrics suggest and very difficult to compare to the wild days of 2005.
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