Housing Sales: The Next Key to Recovery?

With financials appearing to form a bottom and leading the market on a rally for more than a week, Wall Street will be watching closely to see whether the other shoe -- the troubled housing market -- is about to drop.

AP Home For Sale - Reduced Priced

There's a broad consensus that the stock market and economy need a real estate resurgence before a full recovery can be made from the recessionary bear market levels that prevail now.

But today's report on existing home sales did little to signal that a resurgence is on the way.

The National Association of Realtors reported that sales dropped by 2.6 percent last month to a seasonally adjusted annual rate of 4.86 million units, more than double the expected decline. Sales are 15.5 percent below where they were a year ago.

The downward slide in sales is depressing prices, too. The median price for a home sold in June has dropped to $215,100, down by 6.1 percent from a year ago. That was the fifth largest year-over-year price drop on record.

The Dow Jones real estate index was nearly 3 percent lower in morning trading.

The market was looking at today's report as well as Friday's numbers on new home sales to provide clues as to how close housing is to a rebound.

If those two numbers came in around expectations and housing prices can show at least some modest gains, that could signal a turnaround.

"We think that if you follow the price of homes, if you look at the outstanding supply of homes, you'll be able to sense when you reach a bottom," Kevin Caron, market strategist at Stifel Nicolaus, said Thursday on CNBC. "While the supply of homes for sale continues to be high, it's at least stopped rising. So there's a little bit of a grain of optimism there, but we still see risks to the economy." (See video)

Caron said he thinks the stock market is beginning to recover.

"I think the overall market is going to move higher eventually. We're trying to be a little bit more optimistic about things," he said. "We came into the year very bearish because we were concerned about what was happing to housing prices as it relates to the broad economy and specifically how it relates to banks."

While not stellar in relative terms, the majority of banks have reported earnings this quarter that at least beat Wall Street's lowered expectations.

That has generated further hope for a recovery, though there remains concern over mortgage rates, which have been climbing despite a protracted campaign by the Federal Reserve to bring interest rates down. Mortgage rates have increased as yield spreads have widened, something that has confounded some analysts who expected to see the spreads shrink as the Fed moves brought down the prime lending rate.

"Mortgage rates are actually higher now than when the Fed started cutting rates in September," said Michael Darda, chief economist at MKM Partners. "We still have some pretty intense stress in credit markets and that more than anything else keeps the Fed on the sidelines for a while."

Darda sees the credit problems acting as a barrier to a full recovery.

"It's just going to take some time," he said. "As long as the credit markets are under severe stress, this economy's going to have a 100 mile an hour headwind."

© 2008 CNBC.com