by Calculated Risk on 4/11/2006 11:37:00 AM

Danielle DiMartino writes in the Dallas Morning News: Real estate indicator gets notice

One of those data points in particular is troubling and telling to Merrill chief economist David Rosenberg.

"Over the past three decades, there were eight episodes where new-home sales decelerated into an environment of double-digit decline," he wrote in a recent report. "In seven of the eight, the economy slowed sharply in the ensuing four quarters."

On average, annualized economic growth slowed by 3 percentage points. The single exception, which trailed an early 1987 downturn in sales, was offset by the post-stock-crash explosion in share prices. And we're not just talking a quick slowdown, so to speak – in six of the eight instances, recessions followed within five quarters' time.

This fresh analysis rendered new-home sales an instant classic leading indicator, at least in Mr. Rosenberg's book.

...
Mr. Kasriel takes the Rosenberg analysis one step further by plotting the quarterly average observations of the year-over-year change in economic growth against the year-over-year change in new-home sales, which he then advanced by three quarters. This three-quarter advance yielded the strongest correlation to gross domestic economic growth.

"In other words, as pointed out by Mr. Rosenberg, the behavior of new-home sales is a powerful leading indicator of overall economic growth," Mr. Kasriel wrote.

Of course, a blowout March could throw the fancy predictive models out the window.

Barring that, first-quarter sales will be down about 16 percent from the prior year, the biggest decline since the first quarter of 1991, when the economy was in recession.

Click on graph for larger image.

New Home Sales is one of my favorite leading indicators of future economic activity. The one exception, the 2001 recession, was due to a dearth of business investment after the burst of the stock market bubble. For the consumer led recessions, New Home Sales has been an excellent leading indicator.