Thursday, July 06, 2006

More Evidence of a Housing Slowdown

The National Association of Realtors (NAR) puts out an interesting index, which until recently, received little notice. It's called the Pending Home Sales Index (PHSI), which the NAR has been publishing only since 2001. A pending sale is defined as one where a contract has been signed, but the transaction hasn't yet closed. Most analysts pay closer attention to existing home sales, which are also published by the NAR, than they do to pending home sales. Yet pending sales are a good indicator of what existing sales will look like one or two months later. This is because pending sales typically close within that period.

Today, the NAR released the preliminary PHSI for May. There was good news and bad news. The good news is that the index was up 1.3% from the revised April figure. April was down 3.6% from March, so it appears that activity stabilized. In fact, today's report puts an end to three consecutive monthly declines in the index. The bad news, however, is that the May figure is down 10.1% from a year ago. That's a little better than the 11.7% year-over-year decline in April, but that's no consolation. The index is closely approaching levels not seen since 2003.

While existing home sales are still healthy, they are well off their 2005 peaks. Indeed, full-year sales for 2006 are likely to fall below 2004 levels. Furthermore, inventories are growing rapidly. There were 3.6 million homes available for sale in May, 41% more than in May 2005. We also know that new home sales are slowing. Several homebuilders are now offering incentives in a rapidly slowing market. So far, home prices are holding up fairly well, yet I have no doubt that prices will be the next shoe to drop.

Shares of many homebuilders look extremely cheap. They are off about 50% from a year ago, and they're selling for very low multiples. Nonetheless, I would still avoid this sector. A cheap stock can get a whole lot cheaper when growth is falling. In this case, growth is actually turning negative.