New Home Sales, and a Brief Lesson in Housing Analysis

New home sales were up last month. But what does that mean for the broader housing market? This article is part of a new series we have launched to educate consumers about the housing headlines they read. So let’s go beyond the headlines of this latest story.

Headline: New Home Sales Rose Steeply in May 2012

Last month marked a significant increase in the sale of new single-family homes. In May 2012, new home sales were up by 7.6% over the previous month and 19.8% over May 2011. This information was released by the Commerce Department earlier today and has been covered widely by the media.

Economists look at this kind of data and immediately see the broader context. But many homeowners and home buyers may be less able to connect the dots. So let’s expand on it. Here’s what new home sales mean to the broader housing market, and how they may affect you as a buyer or seller.

Explanation: How These Sales Affect the Housing Market

New home sales are an economic indicator. They are one of several indicators used by economists to track the health of the housing market. Here we are referring to the sale of newly built properties, as opposed to existing homes.

Home constructionIn other words, these are residential properties sold by builders, not by homeowners. Other key indicators include existing home sales, builder confidence, building permits and home prices. But let’s keep our focus on the story at hand.

Sometimes, new and existing home sales are lumped together and labeled broadly as “home sales.” Other times, as in the recent news we opened with, the prefix “new” or “existing” will be assigned to specify a particular segment of the housing market.

Whenever you see a number that lacks the new or existing prefix, you are seeing the total number of sales for that period.

This type of information is compiled and published by the U.S. Department of Commerce, through the Census Bureau that falls under that department. For instance, the latest news of a significant rise in new home sales was released by the Commerce Department on June 25, 2012. They publish this data every month, along with other reports and indicators relating to the housing market.

Most of the time, these reports are presented with¬†seasonally adjusted numbers. This means that a statistical formula has been used to remove the influence of predictable seasonal patterns. For instance, in the real estate market, there is a predictable home-buying “season” that spreads across the summer months. Many families try to move during the summer, when school is out. So an upsurge in new home sales from, say, April to June would partly be the result of a regularly occurring seasonal pattern.

By removing the influence of these seasonal patterns, economists can get a better sense of what is truly happening in the market, long term. That’s why the rise in new home sales from April to May of this year is significant. Seasonal influences have been removed. So it appears to be another indicator of ongoing improvement in the housing market.

Generally speaking, an increase in new home sales is a positive indicator. It suggests an uptick in real-estate market activity, which has been seriously lagging in recent years. That much is obvious. But what does this indicator mean for the broader housing market? How does it affect the long-term health of the market?

With all other things being equal, a steady increase in new home sales typically leads to a reduction in total housing inventory. This shifts the supply-and-demand balance in a way that supports home prices. Indeed, a consistent rise in home sales will eventually lead to a rise in home prices as well.

For Buyers: This kind of trend suggests the market may be gaining momentum. When mortgage rates are low and sales activity is rising, it’s a signal that it may be a good time to buy a home. Postponing such action could result in a missed opportunity, in terms of home prices.

For Sellers: A rise in new home sales can be mixed news. It can suggest that more home buyers are entering the market, which is certainly good news for homeowners who are trying to sell. But it can also indicate rising levels of new-home construction, which increases competition for existing home sales. Overall, though, it is generally viewed as a positive indicator that homeowners should welcome, especially when it drives prices up over the long term.

A rise in new home sales also ties into another key economic indicator — builder confidence. This indicator has long been used as a measure of health in the housing market. Builder confidence is based on three factors primarily: single-family home sales volume (the subject of this article), projected sales volume over the next six months, and the amount of “foot traffic” from home buyers looking at new homes.

To be sure, builders seem pleased with the recent data regarding sales. Here is what David Crowe, chief economist with the National Association of Home Builders (NAHB), had to say about it:

David Crowe, NAHB“May’s sales report is a welcome sign that the market has returned to a more solid growth path following lackluster reports in March and April, and is in keeping with our expectations for continued, steady improvement through the end of this year.”

Tomorrow, we will have access to another key indicator of housing health. It’s the last Tuesday of the month, and that means it is time for the Case-Shiller/S&P Home Price Index. It should be interesting. Many anticipate that the latest Case-Shiller report could signal a turning point for some metro areas, from depreciation to appreciation. We will find out soon enough.