Why Did Home Sales Miss the Mark in May?

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The average selling prices for homes continue to blast new records each month—and both prospective buyers and homebuilders are feeling the effects. Add in a once-in-a-decade mix of high material costs and ongoing construction labor shortages, and you have more than enough reasons to expect the pace of home sales to slow down, despite friendly mortgage rates. 

And slow down they have—even faster than what forecasters have anticipated. The new May numbers for both existing home sales and new home sales show both prints missed the mark that economists predicted. 

What’s going on with existing home sales?

Existing home sales fell 0.9% between April and May to a seasonally-adjusted annual rate of 5.8 million units. (This data also includes condos and co-ops in addition to single-family homes.) This makes May the fourth month in a row of declining unit sales. Year-over-year growth was a stout 44.6%, but that’s skewed due to the complete shutdown of activity in summer 2020. 

Three of the four regions tracked by the National Association of Realtors saw monthly declines. Only the Midwest region tracked a small gain. Not coincidentally, the Midwest region also has the lowest average selling prices in the country—$268,000 in May. 

The existing home supply is scantest in the low-end price range. But, unfortunately, that’s where demand is also the highest. We have a good idea why: more work-from-home arrangements and increased interest in rural areas. Plus, Zillow data shows that the average home-swapper moved to a ZIP code with home prices $27,000 lower and 33 square feet larger than their previous area. 

The supply of existing homes for sale is most plentiful in the $750,000 to $1 million category; unit sales growth year-over-year in that group tracked at an astonishing 178% in May. More broadly, the median existing home sold for just more than $350,000 in May, up 23.6% year-over-year.

Those are both, ahem, the highest readings ever. 

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New home sales dipped in May—plus, an April revision

New home sales missed analyst expectations by more than 100,000 units, coming in at a seasonally-adjusted annual pace of 769,000 versus a consensus estimate of 873,000.

I speak on behalf of all econ nerds when I say that’s a sizable miss.

The South region was the biggest drag on results, with a 14.5% drop month-over-month. 

April’s previously reported new home sales figure was also revised down about 6% from the initial print of 863,000 units. The aggregate month’s supply of new homes rose slightly in May, to 5.1 months, but still remains lower than 2020. 

The April revision is a neon sign indicating how dicey the path is between signed contracts and finished homes. Rising material costs dramatically affect things on the ground. Keep in mind that almost 80% of new homes are sold before they finish construction. Only now, those new builds are being delayed or halted altogether while the construction industry grapples with supply chain issues, product shortages, skyrocketing costs—and the resulting margin pressures. 

Buyers and investors desperately need new supply

The only thing that will bring housing markets back into balance, and reign in average selling prices, is more supply. NAR estimates that upwards of 6 million new homes are needed to meet current demand, which brings us right up against a wall, as the current pace of new home starts is running less than 1.6 million units annually.

Of course, homebuilders would love to meet the seething demand—but then we run into another wall. Commodity prices for lumber, copper, cement, and even labor are rising unsustainably. Bloomberg’s Commodity Spot Index is up more than 50% in the past year. Recent estimates show that rising commodity costs alone add more than $36,000 to the price of a new home in 2021. 

Low interest rates are great, but the affordability war is still being lost on the front lines for everyone but the all-cash buyer… who is increasingly a corporation, institutional fund, or foreign entity. Personal incomes may be rising as the economy throttles out of the pandemic-induced recession, but they’re not keeping pace with home prices. And the affordability math has to assume mortgage rates stay where they are—an increasingly low-probability outcome given that inflation is running at the highest pace in decades. 

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Understanding the ends of the spectrum

It’s important that we talk about how many key economic, savings, and cost variables are at the ends of their spectrum, and what it implies about the health of housing markets going forward.

We’ve got front row seats to a domestic economy growing faster than it has in 25 years. GDP grew 6.4% in the first quarter of 2021 and is forecast to clock in over 10% in Q2. Yes, the comparisons are still friendly to the pandemic-infused 2020 numbers. Still, after metric tons of direct stimulus, forbearances, and market stabilizations by the Fed, it’s fair to say we’re firing on all cylinders. Even the labor market is on its best footing in over a year. 

Meanwhile, the national savings rate is the highest in more than 50 years. So at the margin, the prospective homebuyer is on the best relative footing they’ve been in more than a generation. 

Mortgage rates are also at multi-decade lows, thanks to the Fed doing all they can to force them there. They’re still buying $40 billion in mortgage-backed securities each month. 

So we have several key variables affecting the affordability and desirability of a home in second standard deviation territory, meaning they are at the proverbial ends of their spectrums. So what’s this mean going forward? Well, the math geeks would say—and sadly, I can speak for them as well—that it’s more likely these variables revert to historical norms in the months ahead as opposed to continuing to arc into the outer edges. 

Reverting closer to the norms means less near-term affordability. The supply part of the equation is, at best, two to three years behind in bringing the market what it wants.

For my money, I recommend watching average rents, regionally and nationally, over the next six months. As affordability dwindles for a larger and larger base of people, how will rents respond? Can rents can match inflation’s rise and keep climbing? That will be key to understanding how multiple property owners can manage their cash flows and assess the profitability of their enterprise.

May rents rose about 2.3% nationally, a strong figure that puts the 12-month rise at 5.4%. A good start—but it will need to keep clocking monthly gains to outrun the cost and inflation increases in 2021.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.