The supply of unsold new U.S. homes plummeted in March in the biggest drop in more than 45 years, government data showed on Friday, offering hope the distressed housing market is stabilizing.

A separate report on durable goods orders showed weakness persists in manufacturing, and possibly the economy as a whole, but analysts seized on the 5.2 percent drop in housing inventory as a bright spot.

Housing is probably forming a bottom, because even the supply of homes, the inventories, declined, said Asha Bangalore, an economist with Northern Trust in Chicago. I think the housing market is stabilizing.

As they work on decreasing supply, builders also appear to be holding off on adding new homes. A separate Commerce Department report showed applications for permits to build new homes were off 8.5 percent in March from February and 44.6 percent from March 2008.

That seemed to be the key factor in the reduction in inventories, as buyers have not snatched up increasingly affordable homes despite the median new home price dropping to $201,400 from $208,700. The Commerce Department said March sales slipped 0.6 percent.

But February sales were much stronger than originally thought. The report showed they rose 8.2 percent, compared with the 4.7 percent gain previously registered.

A revision to the March sales numbers will be released next month.

Inventory levels have plunged a record 33.7 percent since March 2008, and the supply of homes available for sale shrank to 10.7 months' worth in March from February's 11.2 months.

What we are seeing on a moving average basis is a gradual improvement from very low numbers in new home sales, said Kurt Karl, chief U.S. economist for Swiss Re in New York. It's not taking off like a rocket, but it's not looking to be heading south either.

The March drop brought home sales to a 356,000 annual pace. Analysts polled by Reuters had forecast sales at a much slower 340,000.

U.S. equity indices extended their gains after the report was released, while U.S. Treasury debt prices fell. But strong earnings reports from major corporations and the release of a Federal Reserve white paper on criteria for banks' stress tests dominated U.S. markets.

DURABLE GOODS FALL LESS THAN EXPECTED

Even as the housing market showed promise of improving, worries that the recession may not be abating returned, with a separate report showing new orders for U.S. manufactured goods fell 0.8 percent in March.

It confirms that conditions in the economy remain weak, the economy is still contracting. But it suggests it's doing so at a slower pace, which is something that we have seen from a number of indicators, said Anna Piretti, senior economist at BNP Paribas in New York.

Analysts polled by Reuters expected the drop to be a much steeper 1.5 percent.

Orders have fallen for seven of the last eight months, the Commerce Department said. The sole rise in that period, in February, was revised down to 2.1 percent from the 3.5 percent previously reported.

Non-defense capital goods orders excluding aircraft, a closely watched proxy for business spending, gained 1.5 percent in March after rising 4.3 percent in February.

Thomas Duesterberg, president and CEO of the Manufacturers Alliance/MAPI, took heart in the data, saying it suggested at a minimum, a sharp slowing in the pace of decline.

The industry group is forecasting a resumption of growth in the fourth quarter of 2009, he added in a statement.

Transportation equipment orders recorded the largest drop in March, the Commerce Department said, falling 1.4 percent to $37.9 billion. That category has now fallen in five of the last six months.

The near future for transportation-related orders does not look promising, either. Unfilled orders for equipment have fallen for six months in a row, according to the Commerce Department, and dropped 1.5 percent last month.

All unfilled orders for durable goods have been down for the last half year and fell 1.4 percent in March.

Jack Bauer, a senior economist at Manning & Napier in Rochester, New York, said the key to economic recovery would not be found in orders for manufactured goods.

You want to see the financial sector stabilize, he said. That is the first thing you would need to see the economy improve.

(Additional reporting by John Parry and Herb Lash in New York; Editing by Dan Grebler)

Manufacturing