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Brian Wesbury
Chief Economist
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Bob Stein
Deputy Chief Economist
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 | New single-family home sales fell 0.9% in January to a 321,000 annual rate |
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| Posted Under: Data Watch • Home Sales • Housing |
Implications: The housing market continues to improve. Although sales dipped slightly in January, that was due to an upward revision to prior months. The pace of sales came in above consensus expectations. As the chart above shows, the 12-month moving average of sales has been trending upward. Meanwhile, inventories hit a new record low and the months' supply of homes is the lowest in six years. Sometime over the next several years, sales will rise to an annual pace of about 950,000. But, given tight credit conditions and the large inventory of bargain-priced existing homes – particularly those in foreclosure or being sold short – this will take time. One positive sign is that builders are wise to the rapid reductions in inventories. The inventory of new homes where construction has yet to start (permits are issued, but building has not begun) is gradually rising. On the pricing front, median new home prices are down 9.6% from a year ago while average prices are down 5.1% from a year ago. However, prices spiked temporarily late last year, so the comparison is skewed. In other recent housing news, the FHFA index, a measure of prices for homes financed with conforming mortgages, increased 0.7% in December. Although the index is still down 0.8% from a year ago, it's up 1.8% since the bottom in March, the largest 9-month gain since 2005-06. We expect home prices to continue to move modestly upward in 2012. More broadly for the economy, new claims for unemployment insurance were unchanged at 351,000 last week. The four-week moving average declined to 359,000, the lowest since March 2008. Continuing claims for regular state benefits dropped 52,000 to 3.39 million, the lowest since August 2008.
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| | Existing home sales increased 4.3% in January to an annual rate of 4.57 million units |
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| Posted Under: Data Watch • Home Sales • Housing |
Implications: Home sales are slowly but surely headed up. Existing home sales increased 4.3% in January to the highest level since May 2010. More importantly, the inventory of existing homes is down 21% versus last year and at the lowest level since 2005. As a result, the months' supply of unsold homes is down to 6.1, the lowest since March 2005. Even with this great news the National Association of Realtors said cancelled contracts to buy existing homes remained at 33% in January, which is three times the normal level. These figures suggest that, despite record low mortgage rates, home buyers still face very tight credit conditions. Tight credit conditions would also explain why all-cash transactions accounted for 31 percent of purchases in January versus a traditional share of about 10 percent. Those with cash are able to take advantage of home prices that are extremely low relative to fundamentals (such as rents and replacement costs); for them, it's a great time to buy. With credit conditions remaining tight, we don't expect a huge increase in home sales any time soon, but, inventories are in decline and the housing market is on the mend.
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| | Stocks Rising, But Still Cheap |
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| Posted Under: Monday Morning Outlook |
The stock market is on a roll. The S&P 500 has had the best start to any year since 1997, while the Dow Jones Industrial Average looks set to move back above 13,000 for the first time since May 2008.
Fears about some sort of Lehman-style financial panic in Europe are waning. While problems in the Middle East persist, this is nothing new. Moreover, analysts and investors are increasingly focused on reports that show improvement in the US economy. The Fed has not been able to justify QE3.
Maybe the best news is that investors are looking deeper into economic data, not just trading on headlines. Last week's retail sales and industrial production reports were both lower than the consensus expected, but each came with a convincing alibi.
In the case of retail sales, the Census Bureau estimated a drop in auto sales even though reports on sales by automakers themselves, were up strongly. The markets believed the automakers.
Industrial production came in with a big fat zero for January, but a steep drop in output at utilities and mines masked a strong 0.7% increase in manufacturing, driven largely by automakers, who, even after a recent production surge are still running well behind demand, leaving dealer inventories unusually thin.
Meanwhile, regional manufacturing surveys – the Empire State index and Philadelphia Fed index – both beat consensus expectations for February and reported better employment conditions. On cue, new claims for jobless benefits hit the lowest level since early 2008. In addition, housing starts climbed, more proof that the trend in home building is now consistently upward.
The rise in equities so far this year is not just a "sugar high." The Fed has done nothing new, while Keynesian pump-priming is on the wane. Federal spending peaked at 25.3% of GDP back in 2009. It's still way too high, but has fallen to 23.7%. Meanwhile, despite shenanigans like the temporary payroll tax cut, federal revenue has risen from 15.1% of GDP to 15.4% in the past year. Spending is down and taxes are up. From a Keynesian perspective, fiscal policy is contractionary.
Yes, the Fed is loose and is holding interest rates down artificially. But even if we assume more normal interest rates and stable profits (which implies declining margins), stocks are very cheap. Cheap enough in our view to take us to 14,500 on the Dow and 1475 on the S&P 500 by year end 2012.
Using a capitalized-profits approach, we divide corporate profits by the current 10-year Treasury yield of 2% and then compare the current level of this index from each quarter for the past 60 years. Hold on to your hats...this method estimates a fair-value for the Dow at 46,000. But, this extremely bullish result is largely due to artificially low interest rates. Current levels on inflation are above the 10-year Treasury yield and we believe that once the Fed normalizes its policy stance interest rates will climb to much higher levels.
If we use a more realistic discount rate of 5% for the 10-year Treasury, we get a fair value of 18,800 on the Dow and 1,975 for the S&P 500.
Another potential problem is that profits have been an unusually large share of GDP – currently almost 13%. If profits revert to a historical norm of about 9.5% of GDP at the same time the 10-year Treasury yield is 5%, fair value would be 13,900 for the Dow and 1460 for the S&P 500. Just to be clear, that would be in a world where profits fall roughly 25% and interest rates more than double from their current levels. In other words, this doesn't look like a dead cat bounce to us.
Valuations are robust and with the economic recovery re-accelerating, the bull market that started in March 2009 has much further to run.
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| | Housing Report Shows Falling Inventories, Changing Market |
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| Posted Under: Data Watch • Home Sales • Home Starts • Housing |
Every three months, the Census Bureau issues a report with more textured data on home construction than they provide with the monthly data. The report breaks down building activity by purpose and design. Census issued this report late last week and we take several key points from the annual figures for 2011. The data show the market is moving rapidly toward rental construction and that inventories of new homes have reached extremely low levels. And the best news – the total square footage of new home building actually increased by 2% in 2011, the second consecutive annual increase and a sign that building activity has likely bottomed.
- 431,000 single-family homes were started in 2011, a drop of 8.5% from 2010. Given the recent turn in housing starts, 2011 was likely the bottom for starts.
- Of the 431,000 single-family starts, 289,000 were built for sale. The rest were built by owners or contractors and will not show up as new home sales in other data. New single-family home sales in 2011 were 313,000, which was more than enough to absorb the 289,000 built for sale. As a result, builders of single-family homes are still reducing inventories.
- The average square footage of single-family starts was 2,505 in 2011, just slightly below the peak in square footage in 2007. The median square footage of homes is 2,267, which is a record high. In other words, builders may be shying away from constructing the very largest homes of the boom era, but the typical single-family home size has rebounded.
- 178,000 multi-family units were built in 2011, a 53.4% increase from 116,000 in 2010.
- Almost all of the increase in multi-family construction was for units built for rent, which made up 91% of multi-family starts in 2011, a record high going back to 1974. A more typical rental share is 75%.
- All of the increase in multi-family construction in 2011 was due to buildings with 10 or more units.
- The average square footage for multi-family starts was 1,141, the lowest since 1999 (when data started to be collected). The median square footage also declined in 2011, but was not particularly low versus the 1999-2010 period. The shift toward smaller units in the multi-family sector is probably a result of the higher share of rental units. When someone buys a unit in a multi-family building they probably want more square footage than if they rent.
The total square footage of homes started – single-family and multi-family combined – was up 2% in 2011, the second consecutive increase. Total square footage plummeted 75% from 2005 to 2009.
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These posts were prepared by First Trust Advisors L.P., and reflect the current opinion of the authors. They are based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.
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The information presented is not intended to constitute an investment recommendation for, or advice to, any specific person. By providing this information, First Trust is not undertaking to give advice in any fiduciary capacity within the meaning of ERISA, the Internal Revenue Code or any other regulatory framework. Financial professionals are responsible for evaluating investment risks independently and for exercising independent judgment in determining whether investments are appropriate for their clients.
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