Conspicuous Correlation: October 2007

Today, the Commerce Department released their monthly Retail Sales Report for October which continued to show an interesting and, with some pretty significant revisions to past results, even more significant correlation between declining consumer spending, particularly on discretionary items, and the decline in home values.

As in past months, I have isolated the primary discretionary retail sales categories into a single “discretionary” retail sales series, and then charted the year-over-year percentage changes since 2000.

I then added the year-over-year percentage changes of the S&P/Case-Shiller Composite index which broadly and accurately tracks single family home prices using data from Boston, Chicago, Denver, Las Vegas, Los Angeles, Miami, New York, San Diego, San Francisco, and Washington DC.

As a result of reader feedback (hattip Deejayoh) I have modified the approach of merely “eyeballing” the presumed correlation and instead used a Pearson correlation to provide a true statistical view of the data.

The result is a reasonable and even significant correlation between the deceleration, and now outright decline, of home prices and a deceleration and subsequent decline in discretionary consumer spending.

That said, the original correlation that seemed nearly perfect earlier in the year is now becoming lees correlated as home prices continue to erode and discretionary retail sales generally remain flat.

Again, I have updated the analysis by using a 3 month moving average for both the CSI series as well as the discretionary retail sales series.

The CSI is calculated monthly based on home sales that could have been settled as far back as three prior months so the smoothing should serve to better align each series.

Keep in mind that the analysis is STILL assuming completely coincident changes to home values and to consumer spending which is likely not a good assumption as most homeowners would likely pull back on spending after the realization that home values have declined.

In a upcoming post (with the next installment of the S&P/Case-Shiller data) I will attempt to shift the housing price decline further into the future (or spending into the past) following an assumption that declining prices are “leading” the declining spending but for now the correlation on the rates of change are still significant.

First, in order to get a sense of the original presumed correlation, take a look at the chart below showing the year-over-year percentage change to both the S&P/Case-Shiller Composite Index (measuring home price change) versus my “discretionary” retail sales index (measuring retail sales change).

Note that the chart shows that during the period from January 2001 to June 2003 retail sales faltered a little as the effects of the dot-com recession worked to dampen spending but that housing remained at exceptional rates of appreciation.

Notice also that from July 2003 to January 2006 both measures show exceptional, and possibly related or correlated growth that then seemed to also decline in tandem in early 2006 with the retail sales component having generally remained either negative or dampened similar to the rates seen during the last recession.

Next, let’s expand the chart a bit to include the full range of available data starting in January 1993 and running all the way through the latest month where both series have data points in July 2007.

Notice that in general, the rate of change of the two series do not appear to be very well correlated and, in fact, that during the tail end of the last housing recession in 1993, retail sales was growing strongly while home appreciation floundered along the bottom until 1997.

Also note that while growth (or lack thereof) of retail sales was clearly dampened during the dot-com recession, home price appreciation seems to have been little effected.



The final charts attempt to correlate the year-over-year rates of change of the underlying data series and 3 month moving average of those series.

As you can see there is little consistent correlation between the rates of change of these series but that having been said, the best correlation to date has been in the trend seen since 2006.

Although the correlation has weakened a little as home prices continue to slide and retail sales has at worst flattened, this current existing correlation would be interesting to watch over the coming months.

If a measurable pullback continues to occur in discretionary retail sales, this correlation will persist, leaving us to possibly conclude that there is a direct effect between the latest decline in home values and consumption of discretionary items.

Constructing Capitulation: September 2007

Looking back at September’s results (released throughout October) it’s now unequivocally obvious that the nation’s housing markets, having fully transcended the mania that existed primarily in the first half of the decade and now, in its aftermath, after being dramatically and irreparably impaired by the unwinding of the resultant mortgage-credit debacle, are now hurtling headlong into a dramatic new leg down.

While housing demand continues to slow and inventories swell far beyond historic levels, the credit markets that had provided such a plentiful supply of cheap Jumbo mortgages remains non-existent.

Homebuilders have now clearly accepted the severity of the recession and are re-pricing accordingly but as is typical, the existing home sellers remain behind the curve.

Pending home sales, the most leading existing home sales indicator, again showed a truly dramatic continuation of the decline to residential housing sales both nationally and in every region.

The Northeast, Midwest, West and the National regions having now fallen as much as 20% BELOW the seasonally adjusted home sales activity recorded in 2001, the first year Pending Home Sales were tracked.

The National Association of Realtors (NAR) released their eighth consecutive downward revision to their annual home sales forecast for 2007 putting the current outlook far below the “rose colored” initial predictions from the start of the year.

NAR Senior Economist Lawrence Yun is now attempting to persuade others that the speculative excesses have now cleared the market. “The speculative excesses have been removed from the market and home sales are returning to fundamentally healthy levels, while prices remain near record highs, reflecting favorable mortgage rates and positive job gains."

Countrywide Financial (NYSE:CFC) continues to register tremendous borrower stress as delinquencies and foreclosures continuing to remain at troubling levels with delinquencies jumping 30.44% and foreclosures soaring 149% since September of 2006.

The housing weakness still appears to be contributing to a pullback in the retail sales of the most discretionary goods although I will continue to revise the procedures for determining this correlation later this month.

Homebuilder confidence is now sitting AT OR BELOW the worst levels ever seen in the over 20 years the data has been being compiled.

This suggests that the current severe correction has surpassed all other events seen in the last 22 years and is now firmly in uncharted territory.

The Census Department’s New Residential Construction Report firmly indicates a new leg down in the decline for residential construction showing substantial declines on a year-over-year and month-to-month basis to single family permits both nationally and across every region.

The August 2007 results of the S&P/Case-Shiller home price indices continued to show significant weakness for the nation’s housing markets with 15 of the 20 metro areas tracked reporting year-over-year declines and now virtually ALL (except Charlotte NC which changed 0.0%) metro areas showing declines from their respective peaks.

Topping the list of peak decliners are Detroit at -12.18%, Tampa at -10.57%, San Diego at -9.43%, Miami as -9.11%, Washington DC at -8.38%, Phoenix at -8.16% and Las Vegas at -7.65%.



NAR’s Existing Home Sales Report showing perfectly clearly, that demand for residential real estate has now taken a new leg down uniformly across the nation’s housing markets likely as a direct result of the significant structural changes that have taken place in the credit-mortgage markets.

The advance GDP report for Q3 2007 showed an increase in the severity of the drag coming from the decline in residential fixed investment, that is, all investment made to construct or improve new and existing residential structures including multi–family units, with the current quarterly fall-off registering a whopping decline of 20.1% since last quarter while shaving 1.05% from overall GDP.

The following chart shows real residential and non-residential fixed investment versus overall GDP since Q1 2003 (click for larger version).

The Census Department’s New Residential Home Sales Report for September again confirmed the hideous falloff in demand for new residential homes both nationally and in every region as well as reporting significant downward revisions to June, July and Augusts’ results.

As with prior months, on a year-over-year basis sales are still declining significantly, with the national measure dropping a truly ugly 23.3% below the sales activity seen in September 2006.

The latest release of the Reuters/University of Michigan Survey of Consumers showed in unequivocal terms that the US consumer is feeling the burn from declining home values.

In fact, 28% of respondents reported that their own homes had declined in value, well above the record peak result of 24% recorded during the last housing slump in 1992.

Finally, the Census Department’s Construction Spending report for September again demonstrated the significant extent to which private residential construction spending is contracting.

With the weakening trend continuing, total residential construction spending fell -16.78% as compared to September 2006 while private single family construction spending declined by a grotesque -26.14%.

Key Report Details:

• The seasonally adjusted annul rate of private residential construction spending has now dropped 26.53% from the peak set back in February 2006.
• Overall private residential construction spending dropped -16.78% as compared to September 2006.
• Single Family residential construction spending dropped 26.14% as compared to September 2006.

The following charts show changes to construction spending (click for larger version):

Goin’ Down Slow: Survey of Consumers October 2007

The latest and historical results of the Reuters/University of Michigan Survey of Consumers provides a wealth of information for anyone looking to better understand how consumer sentiment has effected or has been effected by the housing bust.

Let’s face it, something significant must have changed in the minds of consumers between the spring and fall of 2005 that led the unwinding we see today.

With the historically low interest rates, solid employment, the loose lending situation and all the news and media coverage of the “flipping” mania, the times couldn’t have been better for home buying if ease of qualification and expectations of near term appreciation were to be the deciding factors.

But yet, something major did change and well in advance of the actual economic pullback or turmoil we are seeing now.

As I believe we will see more clearly in years to come, the housing boom was simply a classic, though enormous, asset bubble fueled primarily by the unprecedented availability of cheap money combined with the totally human response of popular delusion.

The following charts (click for huge versions) show the result of the Survey of Consumers and some components that are specifically related to housing.

The first chart shows the Consumer Sentiment Index, Index of Consumer Expectations, and the Current Economic Conditions Index from 2000 to the present.

The next five charts shows key housing related components of the Consumer Sentiment Index divided between “Good Time to Buy a Home” and “Bad Time to Buy a Home” plotted against the S&P/Case-Shiller Composite Index (CSI) from 1987 to March 2007, the latest historical data available.

I will provide some more thorough analysis in a later post but for now a cursory look at the housing related charts seems to reveal some fairly interesting insight into how consumers interpreted basic aspects of the housing situation throughout the run-up and now the decline.

Housing Decline Spillin’ Over on Consumers!

Ouch!

Today, the latest release of the Reuters/University of Michigan Survey of Consumers showed in unequivocal terms that the US consumer is feeling the burn from declining home values.

In fact, 28% of respondents reported that their own homes had declined in value, well above the record peak result of 24% recorded during the last housing slump in 1992.

Furthermore, the Index of Consumer Sentiment fell 13.56% as compared to October 2006 mostly as a result of consumers’ expectations of future economic prospects.

The Index of Consumer Expectations (a component of the Index of Leading Economic Indicators) fell a whopping 17.33% below the result seen in October 2006 with 22% of respondents anticipating further declines to their homes value.

As for the current circumstances, the Current Economic Conditions Index fell 9.04% as compared to the result seen in October 2006.

Interestingly, the survey reported that the most respondents in 50 years perceived BOTH a high availability of discounted homes AND unfavorable home selling conditions.

Conspicuous Correlation: September 2007

Last Friday, the Commerce Department released their monthly Retail Sales Report for September which continued to show an interesting correlation between declining consumer spending, particularly on discretionary items, and the decline in home values.

As in past months, I have isolated the primary discretionary retail sales categories into a single “discretionary” retail sales series, and then charted the year-over-year percentage changes since 2000.

I then added the year-over-year percentage changes of the S&P/Case-Shiller Composite index which broadly and accurately tracks single family home prices using data from Boston, Chicago, Denver, Las Vegas, Los Angeles, Miami, New York, San Diego, San Francisco, and Washington DC.

As a result of reader feedback (particularly by Deejayoh) I have modified the approach of merely “eyeballing” the presumed correlation and instead used a Pearson correlation to provide a true statistical view of the data.

The result is a reasonable and even significant correlation between the deceleration, and now outright decline, of home prices and a deceleration and subsequent decline in discretionary consumer spending.

That said, the original correlation that seemed nearly perfect earlier in the year is now becoming lees correlated as home prices continue to erode and discretionary retail sales generally remain flat.

This month I have updated the analysis by using a 3 month moving average for both the CSI series as well as the discretionary retail sales series.

The CSI is calculated monthly based on home sales that could have been settled as far back as three prior months so the smoothing should serve to better align each series.

Keep in mind that the analysis is STILL assuming completely coincident changes to home values and to consumer spending which is likely not a good assumption as most homeowners would likely pull back on spending after the realization that home values have declined.

In a upcoming post I will attempt to shift the housing price decline further into the future (or spending into the past) following an assumption that declining prices are “leading” the declining spending but for now the correlation on the rates of change are still significant.

First, in order to get a sense of the original presumed correlation, take a look at the chart below showing the year-over-year percentage change to both the S&P/Case-Shiller Composite Index (measuring home price change) versus my “discretionary” retail sales index (measuring retail sales change).

Note that the chart shows that during the period from January 2001 to June 2003 retail sales faltered a little as the effects of the dot-com recession worked to dampen spending but that housing remained at exceptional rates of appreciation.

Notice also that from July 2003 to January 2006 both measures show exceptional, and possibly related or correlated growth that then seemed to also decline in tandem in early 2006 with the retail sales component having generally remained either negative or dampened similar to the rates seen during the last recession.

Next, let’s expand the chart a bit to include the full range of available data starting in January 1993 and running all the way through the latest month where both series have data points in July 2007.

Notice that in general, the rate of change of the two series do not appear to be very well correlated and, in fact, that during the tail end of the last housing recession in 1993, retail sales was growing strongly while home appreciation floundered along the bottom until 1997.

Also note that while growth (or lack thereof) of retail sales was clearly dampened during the dot-com recession, home price appreciation seems to have been little effected.


The final charts attempt to correlate the year-over-year rates of change of the underlying data series and 3 month moving average of those series by using a moving Pearson's correlation to determine the degree of correlation.

As you can see there is little consistent correlation (negative to low positive indicates no correlation, 50, 80 to 100 indicate good, strong to perfect correlation) between the rates of change of these series but that having been said, the best correlation to date has been in the trend seen since 2006.

Although the correlation has weakened a little as home prices continue to slide and retail sales has at worst flattened, this current existing correlation would be interesting to watch over the coming months.

If a measurable pullback continues to occur in discretionary retail sales, this correlation will persist, leaving us to possibly conclude that there is a direct effect between the latest decline in home values and consumption of discretionary items.