The 3% drop in existing home sales for July - reflected in the most recent report by the National Association of Realtors (NAR) - is seen by some as being inconsequential, though the association considers it as a signal of a slowing housing market going forward.

According to the NAR, the seasonally adjusted annual rate of 5.17 million units in July dropped from a pace of 5.33 million units in June.

"Given the strength of mortgage applications and of new home sales in the last couple of months it is doubtful that the dip in existing home sales in July represents more than statistical noise," said Jade Zelnik, chief economist at Greenwich Capital Markets.

Zelnik said that in gathering the data, it would be impossible to record every existing home sale, so there is always going to be an element of sampling error. And with this year's historically narrow range, where the number of existing home sales ranged only from 519 to 543, the July figures fall within the realm of statistical noise.

Furthermore, Zelnik explained that since resales are recorded late in the buying process, usually at contract closing, the July statistics are more reflective of conditions in late May and early June when mortgage rates were over 7%. There is usually one to two months lag between the time people agree to buy a house and the time the transaction is actually completed.

With mortgage rates currently at a two-year low "one would think that there is room for existing home sales to bounce back," Zelnik said.

Regional differences

Zelnik pointed out that the dip in July resales, a 8.9% decline, occured mostly in the West, an area that showed remarkable increases in June and May. Existing home sales in the West increased by 6.6% in June and went up 3.0% in May. The Northeast, on the other hand, saw a 3.2% increase in July after dropping by 1.6% in June.

"With the collapse of the high-tech sector, one would expect that the West should not do all that well," she said. "But surprisingly it has, and a one-month decline does not really prove anything."

She added that, though the median and average price of homes both dropped last month, this does not mean a softer underlying price trend. This is merely a reflection of the fact that sales in the West, where prices of homes are higher, came down in July. Prices actually trended up in other regions, including the Northeast.

"The drop in the national price was not an indication of weakness in prices," Zelnik said. "It was just a reflection of the regional change in the composition of home sales."

According to the NAR, the national median existing-home price rose to $150,800 in July. This is up by 5.2 % from July 2000 when the median price was $143,300.

NAR perspective

The NAR expects that the record levels of home sales during the first half of the year will ease during the second half, although the association expects sales to remain above the five-million watermark.

Representatives from NAR said that the slowing of home sales activity would be driven by deteriorating labor market conditions.

"We anticipate about a 5% uptick in unemployment rates by year end," said Lawrence Yun, a senior forecast economist at the NAR.

He said that the rising unemployment rates would not only affect the ability of people to buy homes but also affect consumer confidence.

Despite the fact that mortgage rates have reached a two-year low, this decline would have less of an impact than the lower rates experienced earlier this year.

"Low mortgage rates will continue to support the housing market but the pent-up demand is now less than during the early part of the year," said Yun.

One impact of lower mortgage rates, however, is that more smaller-sized homes are being sold than larger-sized units. Generally when mortgage rates fall, it brings in marginal home buyers. These are people who could not afford to buy homes with high mortgage rates, which includes first-time home buyers.

Yun expects a moderation in home-price appreciation as home sales begin to soften.

Effect on MBS

Analysts say that existing home sales mainly impact prepayments on seasoned discounts rather than current coupon discounts or premiums. New discounts prepay very little because people do not usually move right after they take out a new mortgage, while premiums are primarily driven by refinancing.

Despite the 3% decline in existing home sales, experts still believe that 5.17 million still reflects this year's strong housing turnover. July has been the seventh month that existing homes sales reached a seasonally adjusted annual rate of over 5.1 million units.

"The recessionary forces are largely in business spending and investment, not in consumer spending," said Art Frank, head of MBS research at Nomura Securities. "Housing looks like a particularly good investment with these interest rates. So we expect the remainder of the year to remain strong in terms of housing turnover, which means that prepayment speeds on seasoned discounts will likely remain high."

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