What really drives residential sales volume?

by Mark Dotzour   The name of the game in residential real estate sales is volume. Volume is simply the number of real estate transactions that happen in the market. When volume soars, brokers’ and agents’ incomes soar as well. What causes volume to rise and fall? Everyone knows that in most cities in Texas, sales volume is seasonal. We sell a lot of houses in the spring and summer months, and we sell less in the fall and winter months. This seasonal phenomenon is predictable and well-documented.

But what causes volume to be higher in one year and lower in another? This is the question the Real Estate Center set out to answer. Monthly sales volume for the entire state from 1985-1998 was examined to see what economic factors had positive and negative effects on the number of sales. Many economic factors were examined, but the research results indicate that only three factors have significant influence on volume. These three factors are interest rates, house prices, and disposable income.

Rising interest rates have a negative impact on home sales. A 1% increase in mortgage rates is likely to cause home-sales volume to drop by 1.9%. Similarly, when rates fall 1%, volume is likely to increase by 1.9%. Interest rates are not the only factor that influences volume, though. This was evident in Spring 2000 when mortgage rates quickly rose to around 8.5%. Newspaper reporters around the state were wondering whether the higher interest rates were signaling the end of the home-sales boom that we have experienced in the state. The answer to their concern was a resounding no. The reason for this is that other forces were at work.

The second factor that influences sales volume levels is house prices. Surprisingly, when prices are rising, home-sales volume increases. This is a bit counter-intuitive, because usually when the price of a good rises, we buy less of it. But in the case of houses, rising prices create equity for existing homeowners. The equity gives them the downpayment needed to purchase their next home. If prices are stable or falling, existing homeowners are less likely to have the equity needed to make the downpayment. A 1% increase in home prices was found to cause a 1.6% increase in sales volume. A 1% decrease in house prices would be expected to cause a 1.6% decrease in volume.

The most important factor that influences volume, however, is disposable income–the amount of income Texans have available to spend after taxes. When disposable income rises 1%, sales volume increases 2.4%. Job growth in your community is an easy-to-find proxy for disposable income. When job growth is positive, house-sales volume is likely to expand. Negative job growth (layoffs) cause volume to fall by a similar amount. You can find job growth figures for your city and county updated monthly on the Real Estate Center’s Web site at http://recenter.tamu.edu/data/dataemp.html.

Mark Dotzour is chief economist for the Real Estate Center at Texas A&M University.

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