Monday, June 24, 2013

Why Do Absorption Rates Matter?

Recently, we started publishing absorption rates, as a way to judge the health of the Connecticut housing market.  We knew instinctively that things were not as robust here as they are in other states and regions.  It's hard to tell, however, by using average sales prices, which reflect so many other variables, or even average units sold.  That number is influenced by weather, timing, mortgages, and demographics.

While absorption rates take those factors into account as well, they level the playing field in a way.  So, if the Southwest has twice the supply, but also twice the number of buyers, the absorption rate will be more or less the same.  Absorption rate is simply the number of months it would take to sell every house on the market, at the current rate of sales.  Therefore, if it seems that there are a lot of houses on the market that aren't selling because they are stale, overpriced, or undesirable in some way, that shouldn't matter, because every region has those same types of houses.  The only way that the absorption rate would change compared to another area is if, for some reason, many more of them existed in one market vs. another.  While that could happen, it is usually pretty constant.  Sales that fall through due to contingencies, especially mortgages, also would be fairly constant by location.

That all means that, when Connecticut has twice the absorption rate of the national number (8 months' supply vs. 4 nationally), it means that our recovery is lagging.  Although we knew that, this statistic gives us a good proxy for the strength of the housing market in general.  So San Francisco, with 15 days of supply, is obviously a hot market.

Our market, while not in that category, is also improving.  You can see from my recent blog post that our absorption rate here is dropping.  We don't actually want it to approach San Francisco's rate, since that's a market too hot for most buyers to handle.  The most important fact to note is that we are trending down, so our market is improving.  When we get to a reasonable level of four months or so, we'd be happy to stay there for the foreseeable future, because that would be a balanced level of supply and demand.  And, at current trend rates, we're not far away.