The partial government shutdown delayed the release of a slew of economic data. For the first two months of the year, economists have been flying with one-eye closed due to the lack of data. Yesterday, we got a batch of data on the housing market that shines some light on how the economy ended 2018.
The news headlines are automatically drawn to the opportunity to craft a negative headline: Housing starts tumble to lowest level in more than 2 years.
And for those of us in Southern California, this headline will surely get your attention: Southern California home sales plunge 20% in December to the lowest pace in 11 years.
Let’s start with the bad news. Yes, home sales were particularly weak during the month of December. This shouldn’t be a surprise because the average 30-year fixed rate mortgage went from 4.5% in August of last year, to 5% in November. The last time the average 30-year fixed rate mortgage averaged 5% was back in 2011.
Naturally, as mortgage rates move higher, fewer buyers are able to afford the homes they want to buy. There is a silver lining here. Since peaking in November, the average 30-year fixed rate mortgage is now at the lowest level in over a year (at 4.35%). This is a by-product of the unpleasant sell-off we saw in the stock market during the end of last year.
Homeowner’s are worried about the price of homes and the pace of sales within their neighborhood. That’s logical because homes are priced, in part, by the recent sales of comparable homes in the same neighborhood. However, if you’re looking at the housing market for clues about the overall economy, it’s better to look at measures of new construction activity.
The Census Bureau tracks several key statistics of new home construction on a monthly basis. Their data for the month of December showed a big drop in the number of housing starts (down 11.2% from November), and completions (down 2.7%). However, the number of new building permits that were issued was essentially unchanged from November to December. So while fewer homes were started and completed, builders are still confident enough in future demand to continue filing new permits for homes that they plan to build.
Building permits are one of the six components within our Business Cycle Indicator. Logically, building permits tend to peak before housing starts and completions because they are the first step in the new construction process. If a builder expects the housing market to deteriorate over the coming year, the first thing they would do is stop filing permits for new construction. The second thing they would do is rush to complete their existing projects before demand begins to slow.
Our Business Cycle Indicator peaked in February of last year and fell below zero in November. Without going into all the details (that would take a long time), a reading of -0.9 or lower has occurred prior to every recession over the last 50 years. BCI bottomed at -0.39 suggesting that economic data is going to slow, but not so much that a recession is likely.
What do we make of all this? The bad headlines surrounding the housing market are likely due to movements in mortgage rates and are not a dire warning about the overall economy. With interest rates having now fallen to the lowest level in over a year, we would expect housing activity to bounce back over the coming months. We continue to keep a close eye on the underlying components of our business cycle indicator for signs that a recession is imminent.