WASHINGTON (MarketWatch) -- Home builders retreated on a massive scale in October, dashing hopes that the bottom has been found in the troubled housing sector.

Starts of new homes plunged 14.6% last month to a seasonally adjusted annual rate of 1.486 million, the lowest level since July 2000, the Commerce Department estimated Friday.

Building permits fell as well, down 6.3% to a seasonally adjusted annual rate of 1.535 million, the lowest in nine years. It was the largest percentage decline in permits in seven years.

"The worst in the housing sector has not yet passed," said Ray Stone, chief economist at Stone & McCarthy Research.

The data carry potential implications for policymakers at the Federal Reserve, economists said.

"Housing activity is falling more than the 'soft landing' scenario, incorporated into the Fed's forecast, and the forecasts of most private-sector forecasters," Stone wrote clients.

"A swift reaction on the part of home builders to adjust supply to be more in line with weaker demand is not likely to unnerve the Federal Reserve," wrote Joshua Shapiro, chief economist for MFR, in an e-mail.

But Stephen Stanley, chief economist for RBS Greenwich Capital, saw a silver lining in the October data.

"We see this as an unambiguously good thing," he wrote. "The faster builders address their bloated inventories and bring the pace of home construction down, the quicker the housing correction will play out and the economy can return to a more normal footing."

Housing starts are now down 27.4% from October 2005 levels, and building permits are down 28% on a year-on-year basis. So far in 2006, starts are down 11.1% compared with the first 10 months of 2005. Read the full government report.

October's decline was much larger than expected by Wall Street economists, who had been forecasting a 4.5% drop in starts to 1.69 million as well as a marginal decline in building permits to 1.62 million. See Economic Calendar.

Moreover, September's starts data were revised lower, to 1.74 million from 1.77 million. Permits were revised higher, however, to 1.638 million from 1.620 million.

Bonds rose following the report, while stocks were lower. See Market Snapshot.

Details

The pullback in building was widespread.

October's starts fell by 26.4% in the South, marking the region's largest decline in 22 years, and by 11.7% in the Midwest and by 2.1% in the West. Starts rose 31% in the comparatively small Northeast market. Poor weather likely contributed to the large decline in the South, economists said.

Starts of single-family homes fell 15.9% to a seasonally adjusted annual rate of 1.177 million, also the lowest since July 2000 and the largest percentage decline since 1991. Starts of multifamily units fell 9.1% to 309,000.

The National Association of Home Builders reported on Thursday that its survey of builder sentiment rose for the second time in a row in November, on the heels of eight straight declines, and said that builders may be seeing "the light at the end of the tunnel." See full story.

The government's housing data are subject to large sampling and other statistical errors. It can take five months for a new trend in housing starts to emerge from the data.

In the past five months, housing starts have averaged 1.70 million annualized, down from 1.79 million in the five months ended in September and 2.12 million for the comparable period ended last January.