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Know Your Numbers: Home Sales

At any given time, you have access to a wide variety of resources that can guide your investment decisions. Even within a certain industry, you can often find different measures of activity from a number of sources. Although many news stories tout the latest data release as if it were the most important information ever known, you can build a more comprehensive picture of an industry by combining and considering data from all sources. Often, the way that different sets of data compare and contrast with each other is more valuable than the raw data sets themselves.

The housing industry in particular receives a lot of attention from economic analysts. Because everyone needs a place to live, housing is an essential element of the economy, and information about housing is of interest not only to investors, but also to the general public. As a result, several different groups monitor various measurements of the health of the housing industry. Last week, the Census Bureau released figures on the number of housing construction projects that were granted permits, started, and completed. Earlier this month, the Office of Housing Enterprise Oversight presented data on housing prices that indicated the smallest quarterly rise in prices since 1975.

Today, the National Association of Realtors released its monthly data on sales of existing homes. The Census Bureau will follow up on Wednesday with similar information on sales of newly constructed homes. Here, we take a look at how the NAR collects its data, and how you can interpret it to assist you with investment decisions.

The basic concept
Because of its association with real estate professionals across the country, NAR has a unique perspective from which to collect data on housing transactions. Each month, NAR surveys local realtor associations and boards, and it collects additional information from the multiple listing services that real estate professionals use to track which properties are currently for sale. NAR estimates that by performing this survey, it captures between 30% and 40% of all transactions. After the data is collected, staff economists at NAR review the data to weed out any inaccuracies.

After accurate raw data is available, NAR does several things to refine the data for presentation. In addition to presenting overall numbers for the entire country, NAR also breaks down the data into four regions: Northeast, Midwest, South, and West. NAR also applies seasonal adjustments to make monthly comparisons more meaningful by removing the impact of cyclical variations like weather on the overall data. Furthermore, NAR provides numbers that breaks out transactions involving single-family residences from transactions of condominiums and cooperative apartments.

NAR presents several valuable sets of information about the housing market. First, it estimates the total number of homes that were sold in the given month. Second, it calculates the number of homes currently on the market, as well as the number of months it would take at current sales levels to turn over the entire inventory of homes presently for sale. Third, it measures the median and average prices of homes sold during the month. By combining sales, inventory, and price information, NAR existing-home sales data gives a broad picture of the overall housing economy.

Economic implications
The broad scope of NAR's existing-home sales data makes it possible to draw many conclusions about the housing component of the economy. At the most obvious level, month-to-month trends unambiguously show a decrease in the number of sales, a huge increase in the inventory of homes available for sale, and a flattening in home prices. The headline inevitably destined for tomorrow's newspapers is that median home prices have now fallen year over year for the first time in more than a decade. However, looking a bit more closely at the data reveals some interesting insights.

First, although existing-home sales have fallen more than 10% since last year, they remain comfortably above 2003 levels. And in the long-term context of the data series, the figures represent only a correction to the overall upward trend. This fact, however, is a double-edged sword: You could conclude that the housing market is still healthy because it's still at relatively high levels, but you could also conclude that the housing market has a lot further to fall if the economy falters significantly. Similarly, although median resale prices have reached a plateau over the past year and may be starting to fall, they remain fully 25% higher than they were in 2003 -- not the triple-digit growth that some areas of the country have come to take for granted, but a reasonable return on investment, nevertheless.

Rising inventories, on the other hand, are more unusual. The current backlog of inventory on the market, representing about seven months of sales activity, represents the highest level of inventory since the mid-1990s. In the context of regular businesses that produce goods, high levels of inventory generally indicate falling demand, which can cause sharp reductions in cash flow for a given business, threatening its ongoing operations and often requiring substantial shifts in business strategy in order to survive. Indeed, recent reports suggest that large home-building companies like Toll Brothers (NYSE: TOL  ) and Pulte Homes (NYSE: PHM  ) are taking steps to reduce their inventories of land in anticipation of a slowdown in new home sales. For individual homeowners, however, much depends on their response to longer waiting times to sell their homes. If they panic and reduce their asking prices substantially, then the soft landing in housing that the Federal Reserve and other economically influential groups are hoping to achieve may not come to pass.

Finally, whenever both median and average price information is available, it's always interesting to compare the two. Note that the average sales price is about 20% higher than the median sales price. This phenomenon is typical when the distribution of data is skewed upward. In this case, a small but significant number of homes selling for $1 million or more has a major impact on the average price, but a smaller effect on the median price. By looking at the difference between the average and the median price, you can learn something about the types of houses being sold. If, for instance, the average approaches the median, lower-priced homes are selling well. On the other hand, if the average increases dramatically above the median, then higher-priced homes are the best sellers in that month.

In summary, the housing industry is an important component of the U.S. economy, affecting everyone. By looking at data on sales of homes, you can track how well the housing industry is doing, which can help you with decisions about investing in real estate, home-building companies, and other companies that directly benefit from a healthy housing economy.

Related articles:

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Fool contributor Dan Caplinger hopes to add one to the count of existing home sales in the near future. He doesn't hold positions in any of the companies mentioned in this article. The Fool's disclosure policy always makes you feel at home.


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Dan Caplinger
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Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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