The Dow Jones industrial average closed just a smidgen off its all-time high on Tuesday. Investors, buoyed by falling oil prices, clearly found it easy to shrug off Monday's news that in August, the median selling price of existing homes fell for the first time in 11 years. Not to worry! Consumer confidence is up, inflation under control, and maybe the Fed will give everyone a nice Christmas present and cut interest rates before the year is over.
But wait: 3.92 million homes are still on the market across the United States. That's the biggest inventory of unsold homes since April 1993. That strongly implies that prices are going to have to fall a good bit further before the housing market truly bottoms out. Inventory buildup is a bad sign in any business. When the product isn't moving, trouble beckons.
Which is why I'm going to completely change the subject and talk about the reports of accumulating inventory in an entirely different industry -- semiconductors. According to the market analysis firm iSuppli, semiconductor inventories "rose more than expected" in the second quarter of 2006. In the past, such buildups have been pretty good leading indicators of downturns in the notoriously cyclical semiconductor industry.
Meanwhile, EETimes is reporting that orders for semiconductor manufacturing equipment are declining, and "global economic growth may be slipping."
The last blip in the semiconductor business cycle was a short one, in late 2004, and it's safe to say that outside of the chip industry, hardly anyone in the U.S. noticed. The last serious semiconductor downturn was in 2001, a direct result of the dot-com bust. So what's going on here? One theory is that China's appetite for chips has slackened, as it works through its own accumulated inventory. Another is that the problem is primarily due to one company, Intel, which is sitting on a huge surplus of microprocessors. Some analysts say that a typically strong fall season of consumer electronic and computer purchases will burn through whatever excess currently exists.
Maybe so. It's far too early to make a definitive call. But it's well worth tracking. Up until recently, the trade press has been go go on the chip sector; this is the first sustained reporting I've seen that there could be trouble ahead.
Which brings us back to all those unsold houses. Let's turn the podium over to economist Dean Baker:
"People have been borrowing against their homes at a rate of more than $700 billion a year. This borrowing has helped to sustain consumption in the wake of slow job growth and declining real wages. This borrowing explains the negative savings rate, a first since the beginning of the Great Depression.
"The problem with declining house prices is that it could quickly put an end to borrowing against home equity. The Fed reported that the ratio of equity to value was at a record low 54.1 percent last quarter. From the fifties through the eighties, this ratio was consistently in the high sixties. Coming after a decade of unprecedented price appreciation, this record low ratio is shocking. It is even more disturbing given that the country's demographics, with the huge baby boom cohort entering retirement, points to a higher than normal equity to value ratio.
"If house prices drop further, this ratio of equity to value will fall further. More homeowners will hit their borrowing limits. This will both curtail consumption and likely cause many people to lose homes."
If Americans curtail consumption, the bottom will drop out of the global chip market. And that will be just the beginning.
Then again, maybe oil prices will keep dropping, and the Fed will start cutting rates, and cheap money will make it easier for consumers to borrow again, and we'll all nestle comfortably in our soft, soft landing. Dow 36000, anyone?