I ride my bike to work, always taking the same route. I pass the same 100 or so houses every day. This week, I noticed two new properties have come on the market. One of these houses is on the beach. The owner has posted a large billboard on the curb. "Foreclosure Sale," it announces. "Online Auction."

Every week I see new for-sale signs along my route. This is the first auction notice I've seen. And although it's an ugly, worn-out old house, it's on prime beachfront property. 

Most Americans gauge real estate using the same process I use on my bike. They talk to their neighbors, they notice for-sale postings along their street, and they watch local news reports. 

From this "bicycle-seat view," it appears to the average American that the bear market in real estate in still in full swing and getting worse by the week. 
Here's the thing: Trying to predict trends in the real estate market by watching house prices is like trying to predict the stock market by watching CNBC. It doesn't work. 

Houses are illiquid assets. It can take months for homeowners to accept their houses have fallen in value and lower their prices. Many potential sellers have mortgages larger than the value of their homes. They can't sell. Banks have it even worse. It takes an average 15 months for a bank to sell a property after the first missed mortgage payment. Many foreclosures haven't hit the market yet. 

House prices are what economists would call a "lagging indicator." They are slow to react to new trends in the market. For forecasting purposes, they are useless. 

To judge what's really going on in real estate, you need a leading indicator. My favorite leading indicator to assess the housing market is the price of lumber. 

Homebuilding and remodeling account for 66% of total lumber consumption in the U.S. The lumber market is a small, illiquid market, so it's sensitive to any changes in supply and demand. In the last cycle, for example, lumber prices peaked in May 2004... two years ahead of house prices. 

If house prices are going to turn up, you'll see it first in the lumber price... and that's what's happening right now.

In the last three weeks, the lumber price has soared 29%... after making a "quadruple bottom" at $140 a contract. Last week, it broke out to a new high for the year.


This is incredible strength in a market you'd think would be dying. If the trend withers, expect lower house prices ahead... But if it continues, expect a bottom in home prices within the next 18 months. 

Good investing,

Tom

P.S. If you're following the housing market, click here and here for a couple of items I recently found on The Daily Crux. If you own your own home... or are thinking about buying one, you shouldn't miss these stories.