Will the US housing market cause a recession?

March 7, 2007

US NAHB Traffic of Prospective buyers - a precursor for the S&P500 market?

>>A very interesting chart that illustrates an overlay of the US NAHB Traffic index*and the S&P 500 index, with the former lagged 15 months.

>>Historically, real estate downturns have had the tendency to lead the US economy into recessions and stock market slumps: In 1994, the bull market in stocks was portended by the NAHB index and in 1999, its decline starting in 1999 adumbrated the equity market wipeout the following year. Unsurprisingly, this index rebounded in November 2001 – approximately a year in advance of the stock market upswing that commenced in October 2002.

>>More worringly, in recent times – since July 2005, to be precise – the index has wiped out from a high of 55 in July 2005 to a low of 22 in September 2006; an incredible drop of 60%! According to the New York Times,  “The slump in home prices from the end of 2005 to the end of 2006 was the biggest year over year drop since the National Association of Realtors started keeping track in 1982.”

>>If historical correlations hold (the index has had an 84% correlation with the direction of the S&P 500 with a lag of 15 months from 1996-2006), then the US equity market could waterfall on the back of a weakened US economy. The fear is that this could occur this year!

>>Surprisingly, so far the US economy has remained resilient to a recession notwithstanding the slump in the housing sector. Normally, a weak housing market has meant a slowdown in the construction sector and a fall in construction materials. It is also not unexpected that construction-related employment should take a hit – especially considering that 30% of all jobs created since the end of the last recession in 2001(1.4 millin) have been in sectors related to the US housing market boom (according to an estimate by Capital Economics).

>> The ripple effect of the housing crash is often reduced consumer spending and increased unemployment. Over the past several years, the rising price of properties in the US has allowed consumers to support their consumption with cash flow derived from borrowing against their homes – an activity dubbed Mortgage Equity withdrawal . With house prices rising, this has been a key contributor to consumer wealth(U.S. homeowners pulled more than $450 billion in equity out of their homes in 2005), allowing consumers to treat their homes like ATM machines. With house prices falling now, consumption is likely to take a hit as the ATM machines go bust – or so goes the theory! Given that consumption constitutes 70% of GDP in the US, it’s only reasonable that a slowdown in consumption would precede a slowdown in GDP growth.

>> For now, there’s little hard evidence that the housing slowdown is dragging the US economy into a recession.  The economy grew at a sluggish 2.2 percent pace in the final quarter of last year, much slower than initially reported, battled by the weak housing market. With mounting concerns that mortgage lenders might be hurt by the increasing level of defaults and delinquencies especially in the sub-prime area , the fear is that each negative development is likely to fuels additional deterioration putting further pressure on the banks and sending the economy into a tailspin. We just hope it doesn’t get too ugly!


*NAHB Traffic Index – Derived from a monthly survey that NAHB has been conducting for 20 years, the NAHB/Wells Fargo Housing Market Index (HMI) gauges builder perceptions of current single-family home sales and sales expectations for the next six months as either good, fair or poor. The survey also asks builders to rate traffic of prospective buyers as either high to very high, average or low to very low. Scores for each component are then used to calculate a seasonally adjusted index where any number over 50 indicates that more builders view sales conditions as good than poor.


Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: