This is a special guest blog post from the Vice-Chair of the 2011 NAR Research Committee, Robert E Taylor, Jr. GRI ABR CRS EPRO
For almost fifty years, the term “Months’ Supply” has been a common one in my life. Having grown up in Detroit in a “car family,” it was how automobile companies and their employees talked about the supply and demand for cars. As inventory increased, the monthly supply increased, which would lead to a decrease in production until supply decreased. Additionally, if an automaker wanted to stimulate demand, they offered incentives for buyers. Using these two tools, manufacturers constantly manipulated the availability of cars so prices and profitability stay at proper levels. These tools work for most any retailer; they manipulate supply and demand and eventually all in stock is sold and replaced by new product. Every car, or widget, got a turn.
The second place I've heard it used is in housing. Months’ Supply is a frequent bit of data shared with a seller in pricing a home or with a buyer to help them understand the importance of taking action now, if they've found a home they like. Unfortunately, unlike cars or other such retail items, it also suggests that every home eventually gets its turn; to a buyer it might suggest that if they wanted to buy within a specified period, good homes would stay on the market or be replaced by new ones just like the one they let slip past. However, real estate agents know both of these assumptions are false: unlike cars, each property is unique, eliminating the ability to control either supply or demand.
This created a curiosity within me about an alternative to the Months’ Supply statistic - the absorption rate. The absorption rate is simply the ratio of the number of homes sold to the number of homes on the market. I wondered: could it not only tell us where we were in the market, but also how we got there and where we were headed? This led me to start accumulating this data for a large geographic area using a very simple search every month. The parameters are:
Municipality (I collect data within a three-county area)
Homes for sale (if there is a “no lease” parameter I use it, otherwise I simply put in an appropriate dollar amount for minimum search price).
Year built (I want to see what is happening in new construction and go two years back from the present year in a “year built” search if there is no new construction search capability.)
Condo/single family residential (both types of properties have very different users).
With this information as a basis, and using simple sold searches when needed, it became very easy to track trends in specific markets. Below is an example – a similar exercise can be conducted for condos or single family residential properties separately, and for any geographic area where data are available.
From the information above, for a specific area within which I work, you can see what has happened in the year period from October of 2005 to October of 2006:
Inventory: an increase of 251 units (1594-1343 = 251), or (251/1343 = .187) 18.7%
Sales: a decline of 38 units (60-98 = 38), or (38/98 = .388) -38.8%
Absorption Rate: declined by 3.5% (3.8%-7.3% = -3.5%), at rate of decline of (-3.5%/7.3%= .479) 47.9%
From the data above, the trend in home sales for this portion of my local market was not only quantifiable but easy to demonstrate to sellers and buyers alike. This allowed me to properly counsel sellers on the urgency of aggressive pricing and that perhaps for buyers the time to buy might not be now unless they got a “good deal.”
Trends
Trends are developed not by looking at a single month’s data but by comparing one month to another month. With this information, you can not only see where the market has been and where it is currently, but when you add in other trend information you may also be able to see where it is headed. Peering into the future for even 90 days is a very valuable tool for real estate agents. Developing your own local data also allows you to dispel the perception of the market created by the media using much broader, usually national, data. Collecting this data over a period of a few months provides several insights into your local market.
The chart below includes actual market data. From 2006 to the beginning of 2009, the absorption rate declined but then began to increase. Buyers who waited until 2010 to buy found themselves in a more competitive market.