Housing Sector 'No Longer in Freefall': 5 Things You Need to Know

May existing-home sales increased modestly from the previous month.

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Although May home sales fell 3.6 percent from a year earlier, they increased more than 2 percent from April, the National Association of Realtors said Tuesday in its existing-home sales report. The report came as a bit of a disappointment to some economists, who had expected a larger increase. Still, "a gain is a gain, we suppose," Ian Shepherdson, chief U.S. economist at High Frequency Economics, said.

Here are five things you need to know about the May existing-home sales report:

1. Falling prices, cheap mortgages: More affordable home prices and cheap mortgage rates contributed to the monthly sales gain. The national median home price for May fell nearly 17 percent, to $173,000, from the year-earlier period. At the same time, 30-year fixed mortgage rates averaged a remarkably attractive 4.86 percent during the month. Lower home purchase costs helped lure more buyers into the market. Meanwhile, "distressed sales" accounted for a third of all purchases made during the month, down sharply from 45 percent in April. "Offsetting forces are driving existing home sales," Patrick Newport, an economist at IHS Global Insight, said in a report. "Driving sales up are distressed sales (foreclosures and short sales)—and to a lesser extent, improved affordability; driving sales down is weak demand. Distressed sales and improved affordability won the tug of war in April and May."

[See 2010 Home Price and Mortgage Rate Outlook: 5 Things to Know]

2. Inventory Slide: The increase in sales helped chip away at the glut of unsold homes that is putting downward pressure on prices. The month's supply of unsold homes fell to 9.6 months in May from 10.1 in April. But Richard Moody, chief economist with Forward Capital, says that despite the progress, housing inventory remains disconcertingly elevated. "Compounding the problem, foreclosures continue to run at high levels, as will remain the case over coming months," Moody said in a report. "Moreover, the inventory figures do not account for the inventories of homes held by banks or other lenders, nor do they account for the significant numbers of vacant homes being held off the market by their owners—we believe that there is some element of 'pent-up supply' in the market, in the form of prospective sellers waiting for improved market conditions before listing homes for sale." Moody believes that high inventory levels will continue to put downward pressure on home prices for some time.

[Check out Mortgage Rates Head for 6 percent: 5 Reasons They Might Retreat]

3. " No Longer in Freefall ": So what do these housing figures say about the state of the real estate market? "The report is consistent with ongoing stabilization in activity measures of housing but does not point at a strong rebound," economists at Goldman Sachs said in a report. Mike Larson of Weiss Research agrees. "It's clear that the housing sector is no longer in freefall," he said in a report. "But neither is it rebounding strongly.

"We're seeing modest declines in inventory, modest improvement in sales, and some tentative signs of stabilization in pricing. But that's it," he continued. "And that should come as no surprise. We just experienced the longest, largest housing bubble in U.S. history. As a result, the recovery process will be a long, drawn-out affair."

4. Appraisals: NAR argues that home sales would have been higher if it wasn't for what the association considers "poor appraisals." "Lenders are using appraisers who may not be familiar with a neighborhood, or who compare traditional homes with distressed and discounted sales," Lawrence Yun, the trade group's chief economist, said in a statement accompanying the report. "There is danger of a delayed housing market recovery and a further rise in foreclosures if the appraisal problems are not quickly corrected." To that end, NAR President Charles McMillan said, "We need realistic appraisals that are based on proper comparisons and done by a local specialist." He also advocated expanding the $8,000 first-time homebuyer tax credit into 2010 and making it available to all buyers of primary residences.

[See Will the $8,000 First-Time Home Buyer Tax Credit Expand to $15,000?]

5. Rising Rate Threat: The recent sharp rise in mortgage rates threatens to smother this flicker of optimism in the housing market. Rates "didn't begin to rise significantly until late May. Since the existing home sales figures are based on contract closings, rather than contract signings, the impact of higher rates wasn't captured in this report," Larson said. "We'll likely see housing demand trail off as we head deeper into the summer unless financing costs ease."