Housing & Construction

Housing & Construction

Housing and construction are an economic powerhouse, not because of the direct contribution it has to the Economy but due to the varied and many indirect activities that spur more lavish spending and hiring. Think about the cost of maintaining a house, from energy costs to appliances. Housing is at the center of the consumer; when housing weakens, so does the economy.

Credit is a critical piece in the housing market; to fully appreciate this power, look no further than the great financial crisis of 2008, which was exacerbated by a credit collapse, the associated subprime mortgage crisis, and the subsequent housing depression. Many factors influence the pace and level of housing construction spending, and credit conditions are certainly atop that list. When the availability of credit evaporates as it had, severe consequences ensue.

This combination of housing and credit makes monitoring the housing cycle critical for identifying housing and credit-based recessions. While not all recessions occur around the housing market, the ones that do reasonably profoundly impact the consumer and the financial system.

While the housing cycle does not always follow the business cycle, like in the 2001 tech bubble, it is still an essential part of the economy because a slowdown in housing historically is followed by a recession. The 2001 recession was essentially a correction of excess business investment in technology in the run-up of Y2k. However, housing and consumer spending barely flinched after the technology bubble burst, and accumulated excess came home to roost in the great financial crisis in late 2007.

Robert McGee wrote about how the housing cycle is different from the business cycle. He said something stood out: The difference between these two cycles also illustrates the point that cycles funded more by equity valuation excesses are generally less damaging than those fueled by excessive debt growth (McGee (2015)).

Recessions fueled by debt bubbles such as housing tend to have more serious economic consequences than P/E compression cycles. Remember that equity markets can still collapse under mild recessions like the tech bubble.

Home Prices

When it comes to tracking the housing market, price of a home is king. When supply and demand change, so too will the price level. Therefore, economists like to keep an eye on home prices. While new and existing home sales releases possess data regarding the median level of home prices, the most popular and respected measure is the relatively new S&P/Case-Shiller Home Price Index. Two broad measures, one of 20 cities and a 10-city composite, measure the values of residential properties in U.S. metropolitan areas. The headline is the 20-city composite.

Another valuable tool for monitoring home prices is the data released by Housing and Urban Development (HUD). It has a longer track record than the Shiller data but is broader, including rural areas. This indicator provides us with another indicator for home prices, with the advantage of knowing the value compared to the indexed data of Shiller.


The Construction Spending report is a monthly release of the Commerce Department’s U.S. Census Bureau depicting the detail of activity and is segmented by public and private spending.

Economists look to this report to see whether there are any trends or developments in the various measures. These indicators identify the year-over-year pace in spending on public and private construction. Notice how the weakness in total activity plummeted sharply in 2006 and throughout the 2007–2009 economic slump. Since this period coincided with a credit crisis, many banks were reluctant to lend—having just been burned by granting loans to those that could never afford to repay them—and so many would-be borrowers wouldn’t dare apply for loans amid such horrible economic conditions, the pace of activity sank.

Private sector tends to be more cyclical than the public market.

Housing Market Index

The National Association of Home Builders releases the Housing Market Index (HMI), as well as a couple of very interesting subcomponents including single-family sales, single-family sales expectations, and prospective buyer traffic. The survey asks respondents to rate market conditions for the sale of new homes at the present time and in the next six months as well as the traffic of prospective buyers of new homes.

These indicators are constructed by asking businesses about conditions—are they better, worse, or the same? The results are compiled and estimated like any other diffusion index whereby any reading above 50 is associated with expansionary conditions and those readings below 50 are contractionary.

The HMI correctly identifies the weakness during the housing crisis that commenced in 2004 and ran through 2013. Because of this accuracy, economists like to incorporate these measures into their econometric models when forecasting housing activity.

The NAHB/Wells Fargo HMI is a weighted average of three separate component indices: Present Single-Family Sales, Single-Family Sales for the Next Six Months, and Traffic of Prospective Buyers. Each month, a panel of builders rates the first two on a scale of “good,” “fair” or “poor” and the last on a scale of “high to very high,” “average” or “low to very low”. An index is calculated for each series by applying the formula “(good – poor + 100)/2” or, for Traffic, “(high/very high – low/very low + 100)/2”.


McGee, Robert T. 2015. “Applied Financial Macroeconomics and Investment Strategy (Global Financial Markets).” Global Financial Markets, 33.