Months of inventory, more commonly known as months of supply, represents how long it would take to deplete inventory assuming no new inventory is purchased or put on the market. It's commonly used in the real estate industry to determine the health of a particular real estate market.
Calculate Months of Inventory
To calculate months of inventory, follow these steps:
Identify the number of active listings on the market within a certain time period. For example, you might search the Multiple Listing Service to find out how many active properties were listed in a particular city for the month of February.
Identify how many homes were sold or pending sale during that same time period.
Divide the active listings number by the sales and pending sales to find months of supply.
For example, say there were 500 active listings in February, and 125 sales and pending sales. Months of inventory is 500 divided by 125, or 4. That means that, if no new homes are listed, it would take four months for the homes currently on the market to sell.
Interpreting Months of Inventory
If months of inventory is between zero and four months, real estate professionals say the market is a seller's market. In other words, supply is relatively low, which means that sellers have more control to set terms or raise prices. If months of inventory is between five and seven months, supply is healthy and the market has a good balance of buyers and sellers. If months of inventory is eight or more, it's a buyer's market and buyers have more negotiating power.
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Changing Variables in Months of Inventory
You can segregate the market or change the time period for months of supply to look at housing inventory in different ways. For example, if you're interested in houses that cost between $400,000 and $500,000, you can calculate months of supply specifically for houses that were listed and sold in that price range.
Home sales can vary based on the season, so measuring just one month of inventory can create skewed results. Rather than calculate a month of supply based only on a month's worth of listings and sales, calculate it based on six months' or a year's worth to get an idea of supply over a longer period of time.