Housing Bottom? No, The Mother Of All Head Fakes

happy couple home

Housing bears immediately tried to poke holes in the surprisingly good numbers in the May Case Shiller report. 

The most widespread bear argument, that the rise was just seasonal, is weak: Even the seasonally adjusted numbers were the best in three years.

Two other arguments, however, are more persuasive. 

Whitney Tilson of T2 Partners calls the May numbers “the mother of all head fakes.”  He–and the two analysts below–think house prices will resume their decline in the fall.  We’re in that camp, too…

Bear Case 1: The Seasonal Adjustments Are Too Weak

The first argument against reading too much into the May numbers, made by Calculated Risk, is that the “seasonal adjustment” factor used by Case Shiller is not strong enough.  Under this theory, a more appropriate seasonal adjustment would have showed a steeper decline in seasonally adjusted May numbers.

To support this argument, Calculated Risk plots the non-seasonally adjusted Case Shiller numbers (blue) and the seasonally adjusted ones (red).  He notes that, during the 1990s, the seasonally adjusted numbers smoothed the seasonal variations to a relatively flat line (as they should).  In the nutty 2000s, however, the seasonal adjustments produced wild swings that almost tracked the non-seasonal adjustments–thus defeating the purpose of attempting to “seasonally adjust” the numbers at all. 

Thus, in Calculated Risk’s opinion, house prices will start falling sharply again in the fall, when the seasonal boost peters out.

Bear Case 2: It’s Just A Mix Issue

The second bear argument, made by Mark Hanson, is even more persuasive.  In a nutshell, Hanson argues that the strong Case Shiller numbers were just due to a temporary seasonal change in the mix of houses sold–with “organic sales” (normal, voluntary, free-market sales) becoming a larger percentage of the overall sales than they were in the winter, when distressed foreclosure sales dominated.

In 2008, Mark’s argument goes, foreclosures climbed steadily through the year.  Most foreclosures in 2008 were on lower-end, subprime houses that plummeted in price as banks dumped them at distressed prices.  This year, however–at least in California–foreclosures have stayed relatively flat (at a high level).

Meanwhile, the organic sales market–sellers who actually want to sell–picks up each summer.  In recent years, with most foreclosures taking place at the low-end of the market, the organic sales market has tended to include higher-priced houses that aren’t sold in distress. 

Last summer, rising low-priced foreclosures overwhelmed the seasonal spike in high-priced organic sales, so average houses prices kept falling.  This year, however, with flatter foreclosures, the seasonal spike in organic sales is having a far larger impact.  Thus, in the past few months, the median sale price has risen.

In other words, Hanson attributes the rise in the Case Shiller index to a seasonal mix issue, not a bottoming in national prices.

Here’s Mark’s argument in detail:

Slight median and average house price appreciation is being seen across some MSA’s mostly in the bubble states – there is no doubt about this. … [T]he simple line chart I added below best highlights the temporary organic/foreclosure-related seasonal mix-shift responsible for the price movement.    


 The chart below shows clearly the organic sales seasonality (pink) in 2008 and 2009. But in 2008, foreclosure-related resales were surging relative to organic sales each month.  And in 2009 they have remained relatively flat all year.

The levelling out of foreclosure-related resales has made organic sales going up and down the deciding price factor. This year, as more organic sales (including more jumbo homes going off this year due to price dumping) relative to foreclosure-related resales happened during the peak season, the median and average prices moved in lock-step towards the higher organic market price.


But the season ends now. Every year, organic sales fall off of a cliff beginning in August primarily because kids go back to school in Sept. If organic sales follow typical seasonality trends lower again this year and foreclosure-related resales stay the same or rise (no reason they shouldn’t), then the average and median prices will be pulled quickly back towards the distressed market price. Never before in the history of the housing market have we had two markets pulling and pushing on each other like this.


You hear all of the time — ‘”house prices turning is like a turn a freighter therefore, this tick up is a definitive leading indicator”. That is just not the case in the new-era housing market.

[The numbers here correspond to the numbers on the chart below, which is data from California only]


1. Previous to 2007, organic sales were the housing market. Foreclosure-resales made up 5% at most.


2. Prices were at a peak through mid 2007.


3. Foreclosure resales (sold through a realtor channel) began infesting the mix — organic sales and median prices began to drop sharply.


4. Foreclosure resales keep rising for over a year while and prices continued to fall as the median price was pulled towards the foreclosure-related resale market price. In September 2008, they overtake organic sales. By Nov 2008, foreclosure resales peaked due to maximum demand from investors and first timers, foreclosure moratoriums, etc.


5. In Jan 2009, after a 55% house price drop, median prices level out as the early purchase season begins and organic sales begin to increase. Additionally, foreclosure-related resale inventory has been held artificially low due to moratoriums and/or servicers keeping inventory off the market on purpose.  In April 2009, CA median house prices bottom.


6. Going into the busy season, organic sales bounce hard (just like they did the year prior), hit an inflection point in May and reclaim the mix in June.


7. Median house prices began to turn upward in May — moving toward the organic market price — shortly after organic sales began to reclaim the mix. (See pink line leading yellow line beginning at ‘6’. 

See Also:
It’s True!  The Housing Market Really Is Getting Less Bad
July Housing Report: Plenty More Downside


Business Insider Emails & Alerts

Site highlights each day to your inbox.

Follow Business Insider Australia on Facebook, Twitter, LinkedIn, and Instagram.