Rising Inventories and Price Cuts = Bottom of the Housing Recession?

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Northern Trust Global Economic Research 5 South LaSalle Chicago, Illinois 663 northerntrust.com Paul Kasriel plk1@ntrs.com Rising Inventories and Price Cuts = Bottom of the Housing Recession?

1 Northern Trust Global Economic Research 5 South LaSalle Chicago, Illinois 663 northerntrust.com Paul Kasriel plk1@ntrs.com Rising Inventories and Price Cuts = Bottom of the Housing Recession? December 19, 26 Housing starts in November jumped 6.7% after slumping 13.7% in October. So, October marks the bottom of the housing production recession, right? Doubtful. For starters, this past November was warmer than the average of the past ten Novembers. This November, the average temperature was 45 degrees Fahrenheit. For the ten past Novembers, the average temperature was 44.8 degrees. While November was warmer than usual, perhaps prompting a bit more constructionrelated ground breaking than normal for November, October 26 was cooler than average, 53.8 degree vs degrees. Perhaps, then, both October s and November s housing starts are overstated in opposite directions. Let s try to separate the signal from the noise by looking at the year-over-year percent change in housing starts. Chart 1 shows that the latest year-over-year reading on housing starts is minus 27.8%, the largest year-over-year decline since March 1991, when the economy was still in a recession. Chart 1 Housing Starts: Total % Change - Year to Year NSA, Thous.Units Source: Census Bureau /Haver Analytics Aside from the vagaries of the weather, the more fundamental reason why I doubt that housing production is on the upswing is that inventories of already-built new homes are rising relative total new homes for sale. This is shown in Chart 2. Completed homes for sale have jumped up to a to-date cycle-high 29.5% of total new homes for sale. Compared with previous housing recessions, this ratio of completed-to-total still is low. Perhaps one of the largest and most speculative residential real estate booms in the post-wwii era will have one of the shallowest busts.

2 Chart 2 New 1-Family Homes For Sale: Completed / Total % Perhaps. But in case the ratio of newly-completed homes for sale relative to the total has not reached its cyclical zenith, then history suggests that single-family housing starts have not reached their cyclical nadir. As shown in Chart 3, housing starts tend to trough when newlycompleted homes for sale reach a cyclical peak as a percentage of new total new homes for sale. Chart 3 < New 1-Family Homes For Sale: Completed / Total % Housing Starts: 1 Unit > SAAR, Thous.Units

3 Sharply higher cancellations of new-home-purchase contracts undoubtedly are leading to the rising inventories of newly-completed homes for sale. This is prompting aggressive price incentives on the part of home builders to move the merchandise. But with profits evaporating (see Hovnanian s latest loss report released Monday afternoon), will builders plan to build a lot of new homes soon? The permits data suggest not. Again, separating the signal from the noise, Chart 4 shows that the year-over-year trend in building permits still is down. In November, the yearover-year change hit a new cycle low of minus 32.5%. In sum, I think builders are bending over backwards to rid themselves of expensive-to-carry inventory. But once this is accomplished, it will be a warm day in January before they begin to think about rebuilding their inventories of buildings. Chart 4 Housing Units Authorized by Permit: Total % Change - Year to Year NSA, Thous.Units Source: Census Bureau /Haver Analytics 9 5 Wholesale Inflation Energy And Cars Taketh Away And Giveth Back In September and October, energy prices at the wholesale level fell. In November, they rose. In October, motor vehicle prices at the wholesale level fell. In November, they rose. In September and October, seasonally-adjusted wholesale prices at the finished goods level fell 1.3% and 1.6%, respectively. In November, these prices rose 2.%. Even with the latest month s increase, the November level of the finished goods PPI remains below the April level. Looking at producer price changes on a year-over-year basis in order to separate the signal from the noise, the chart below suggests that cyclical peak for finished goods inflation occurred back in September 25 and for intermediate goods inflation in October 25. At less than 1% year-over-year, finished goods PPI inflation in November hardly looks threatening. As an aside, at the consumer goods level, Circuit City s disappointing latest quarterly earnings report suggests that there might be a 3

4 whiff of deflation in the air. From flat screen TVs to the McMansions to watch them in, prices are falling absolutely. And the sellers of these products are not making it up on volume. Are the bigbox retailers and home builders following in the footsteps of the Big Three auto producers? < PPI: Finished Goods [Including Foods & Fuel] % Change - Year to Year NSA, 1982=1 12 PPI: Intermediate Materials, Supplies & Components > % Change - Year to Year NSA, 1982= Source: Bureau of Labor Statistics /Haver Analytics James Pressler jap1@ntrs.com Thailand: Markets Pounded By New Capital Controls and Policy Reversal Life in Bangkok of late has not been easy. In the wake of the September coup, the currency went on a rally from ThB37.77/US$ after the military takeover to ThB35. by the beginning of December. This sudden strength was accompanied by a sharp rise in short-term investment inflows, which suggested currency speculators were trying to turn a profit at the expense of the baht. Some capital controls were initiated on December 5 to reduce speculation, but they resulted in a doubling of short-term inflows over the next week along with further baht appreciation. The policy moves that have been made since that time especially over the past two days have left many investors confused about who is really in charge of policymaking. Thailand: Spot Exchange Middle Rate, NY Close Baht/US$ SEP 6 OCT 6 NOV 6 DEC 6 Source: Wall Street Journal /Haver Analytics 4

5 On December 18, the Bank of Thailand (BoT) announced a mandatory 3% withholding of all funds for baht purchases unrelated to trade financing. While the wording of this new policy was somewhat vague, it had the desired effect and a number of speculators closed out their positions. The baht dropped 2.2% on the day and Bangkok equity and bond markets took a severe beating, but investors felt that the speculation threat might be over. Today, however, the government overturned part of the central bank s capital control policy and gave a withholding exemption to the equity markets. This unexpected reversal has left Bangkok traders unsure about the near-term direction of policy and very uneasy about the military government s competency. While the exact motives behind the past two days of policy flip-flops are not known, one thing is fairly clear. The military government has crossed the line by infringing on the powers of the central bank, and foreign investors will be quite wary of placing any funds in the Thai markets speculative or otherwise. In the three months after the coup, Bangkok equities had performed rather well because investors were confident that the new caretaker government would allow the financial markets and the BoT to operate in the same manner as they had before the takeover. Now that the administration has extended its authority beyond its boundaries, investors will have every reason to take their funds somewhere other than the Thai markets. Our view is that the Thai situation as it stands is substantially different than it was in 1997 on the eve of the Asian meltdown. The country is not heavily burdened with foreign-denominated debt, there is not a substantial funding imbalance and the exchange rate is not being propped up by the BoT. Any problems that do emerge from this bout of speculation and political interference will likely remain within the country and not radiate throughout southeastern Asia. That being said, there is a greater likelihood that investors who pull out of Thailand might do some careful examination of prospective countries within the region and choose more stable options than the likes of Bangkok. Amanda Mason am9@ntrs.com Canada: Headline CPI Creeps Up in November Annual headline inflation accelerated in November, as a deceleration in the decline of gasoline prices and rising homeowner replacement and mortgage interest costs exerted upward pressure on prices. All-items CPI rose 1.4% in November versus a year-ago, the first time in three months that the index surpassed the 1.% mark. The central bank s preferred inflation measure, all-items excluding the eight most volatile components and indirect taxes (CPI-ex8), slowed to an annual rate of 2.2% in November, from 2.3% a month earlier, still well-within the Bank of Canada s 1-3% targeted range. 5

6 3.5 Canada: Consumer Price Index % Change - Year to Year NSA, 1992=1 Canada: CPI excl 8 Volatile Components & Indirect Taxes % Change - Year to Year NSA, 1992= Sources: Statistics Canada, Bank of Canada /Haver Analytics The driving factors behind November s all-items increase were the 8.2% jump in homeowners replacement cost (estimated using new housing prices, excluding land), the 4.7% increase in mortgage interest cost (the strongest increase since March 21), and the only-marginal 3.1% decline in gasoline prices. 6.5 *Source Replacement costs constitute a substantial share of the CPI basket and, unlike mortgage interest costs and gasoline prices, are not stripped out of the BOC s CPI-ex8 index. The 8.2% increase, however, is largely a reflection of Alberta s still-booming housing market, where costs rose 45.2% in November versus Saskatchewan s distant second-place increase of only 9.1%. 6

7 Today s report has not changed our monetary policy outlook for measured easing starting in midto-late 27. The central bank maintains that the recent economic slowdown will be short-lived and shallow, while inflation risks are balanced between higher consumer spending and home prices and slower exports. Growth expectations hinge on the strength of the Canadian consumer and an expected rebound in the US two factors we are much less bullish about. The slowdown in energy price declines bodes well for November s retail trade report (gasoline station sales amount to approximately 1% of total retail trade), but Thursday s October report is likely to be weak, especially given the 14.3% annual decline in gasoline prices during the month. October s GDP report will also be released on Thursday, and is expected set the tone for moderating growth throughout year-end and into the first quarter of next year. The Bank of Canada will next meet on January 16 th to set interest rates. We expect no change in its 4.25% policy rate. 7

Light at the End of the Tunnel or an Oncoming Freight Train? March 20, 2009

Light at the End of the Tunnel or an Oncoming Freight Train? March 20, 2009 Northern Trust Global Economic Research 5 South LaSalle Chicago, Illinois 3 northerntrust.com Paul L. Kasriel Director of Economic Research 312..15 312.557.2 fax plk1@ntrs.com Asha Bangalore Economist