Housing Market Just Not Firing On All Cylinders
Many blame the slow start to the 2014 housing market on the intense and prolonged winter weather that pounded wide swaths of the Continental U.S. and Canada in the first four months of the year. And while there can be no doubt that the unseasonably cold and snowy weather took a heavy toll on overall economic activity and sapped the energy and momentum that housing displayed much of last year, the sluggish start may not be all about the brutal winter. There also seems to be additional components at play that are thwarting the housing recovery progress and giving it a distinctly different face than those of past recoveries. Let’s take a look at all of the complexities of our current housing market to determine why the recovery engine seems to be misfiring.
I would like to preface this article with two basic premises. First, the analysis you are about to read is statistical based and national in scope. You, like us, are probably really busy and expect to get busier. I think most of us are more concerned about how we are going to be able to get everything accomplished rather than worrying about where our next sale will come from. So this recovery may not exactly seem “sluggish” to you. Secondly, I don’t think the current pace of recovery is altogether, a bad situation. I fear the repercussion of a run-away housing boom that elevates the market above its capacity and escalates pricing to potential crash-and-burn conditions. I favor a housing recovery that is more evenly paced and controlled so that price increases are measured and palpable and the building cycle and labor pool can be massaged and managed to promote stability and consistency. Chaos is not good for any of us.
Yes, inclement weather has certainly extended construction times, impacting everything from land development, concrete work, and the actual building process to new home buyer interest and model floor traffic. One large production builder I talked to recently opened up a subdivision to sales last fall anticipating the ground work and streets for the development would be completed over the winter and they would be in the process of closing homes by now. The subdivision is still without roads and going vertical with construction is still at least a month away. I am sure this is a common occurrence around the country so there is little argument that winter definitely delayed a tremendous amount of construction activity. Building activity through March underperformed expectations and it was only the recent numbers for April that put housing starts over the 1 million mark. Many analyst believe projections will be revised for the year due to housing’s slow start. One concerning element of April’s housing numbers is the poor performance of single-family dwellings. Expectations were that single family would breakout and post solid gains in April, but starts stalled out, ending up a paltry .8% over March’s numbers to a seasonal adjusted annual rate of 649,000. Fortunately, the multifamily sector had a strong performance posting a 40% spike in activity and pushing overall housing starts to a 1.072 million unit pace. That is a jump of 13.2% over last month and an increase of 26.4% above this time last year. Housing permits gained 8% following last month’s dip of 1.1%. Again, the increase can be almost entirely attributed to multifamily which was up 19.5%.
Since the market has yet to experience the breakout of pent-up single family demand that many expected, there are raising doubts that the industry can meet an annual production level of 1.1 million starts projected by the NAHB. The U.S. economy barely grew in the 1st quarter of 2014, posting GDP growth of 0.1%. That number is now in the process of being revised to reveal that the economy actually contracted over the last four months. GDP will need to approach 3.0% if we are to post 1.1 million housing starts this year. But there are many other contributing factors that seem to be holding back a more robust housing recovery.
As I have mentioned in past reports, the look of the current recovery is atypical of past recoveries, especially regarding the makeup of home buyers. First-time home buyers have normally led the U.S. housing market out of past recessions. That is not the case today and it is a very worrisome trend. There are numerous reasons first-time buyers are struggling to make home purchases in the current economic climate. The biggest obstacle is that home prices are rising faster than incomes. Younger buyer’s wealth has been slow to bounce back. According to the Federal Reserve Bank, Americans under 40 years of age have only recovered a third of the wealth they lost after the last recession began in 2007, while older households are nearly back to pre-recession levels.
First-time home buyers hurt by rising prices and tighter credit standards are disappearing from the market and slowing the recovery. First timers accounted for 26% of purchases in January, the lowest market share since the National Association of Realtors began keeping monthly measurements. Consequently, homeownership rate for people in their 20’s & 30’s is currently at its lowest level (42.2%) since the Federal Reserve started analyzing census bureau data nearly 20 years ago. This represents a fundamental concern to the housing sector because the ladder of homeownership needs first-time buyers beginning the process, building equity, and then trading up. The overall health of the housing industry is askew when we are missing strong entry level participation.
Credit worthiness is another tremendous challenge for the first-time buyer, many who are graduating college with unprecedented student debt. Fidelity reports that student debt ballooned to an average of $35,000 per graduate in 2013. In the old days, that would have been the cost of a house. In the recent old days, it would have been a down payment. Now it prevents younger buyers from getting a loan. Also enter changing attitudes about home ownership, especially among young potential new homeowners. Many are favoring the flexibility and mobility renting offers, especially given job uncertainty. Some believe that the generations-old American dream of homeownership has subsided. In a recent survey conducted by the National Endowment for Financial Education, homeownership was a top priority for just 13% of those age 18-34. Half the group put the goal of retirement savings at the top of the list. And with rents at record high levels young Americans are being forced back into their parent’s homes. As of 2012, nearly 4% of U.S. households included an adult child aged 24-34, an increase of 1.2 million from 2006.
It’s not just the first-time homeowner rate taking a hit. The overall homeownership rate is down to 64.8% versus 69.2% in 2004. The fifty year average is 65.4% and we are approaching levels that have not been seen in over three decades. All home buyers are struggling to absorb higher home prices. The median price of a new home was $290,000 in March compared to $257,500 one year ago. This rapid escalation in home prices is also more pronounced in this housing recovery than in past recoveries partly because of a lack of inventory on the market. Home prices rose 11.3% in 2013, their largest annual gain since 2005 according to the S & P Case-Shiller price index. And although analyst expect price gains to moderate as the recovery ages, values still have a way to go to recapture the 35% that home prices fell between 2006-2012.
Making homeownership even more difficult is that the lending market remains restrictive. Interest rates edged up nearly a full percent, lenders are demanding higher down payments, and many potential buyers are finding it hard to qualify due to new debt-to-income requirements. With investment purchases waning a bit, the housing market desperately needs to generate an influx of traditional mortgage-dependent, owner-occupied buyers. Unfortunately, roughly 5-6 million Americans have been shut out of the buying process because they went through foreclosures during the Great Recession. Also, despite the fact that home prices are in recovery mode, an estimated 17% of current home mortgages are still underwater, further signs that a borrowing dilemma exists.
Consumer confidence is still shaky and until that improves we may continue to see subdued housing growth. Part of the uncertainty is based on the heavy flow of investment cash that has masked the ongoing weakness in demand for housing from traditional buyers. In essence, it was unrealistic to expect that double-digit increases in sales, starts, and price gains would be sustained when such a high percentage of buyers were institutional buyers. Until the U.S. economy can improve the underlying issues of weaknesses in job creation and wage stagnation, it will be difficult to restore household growth and overall consumer confidence levels to a point where they feel more secure about their financial situation and are willing to make significant purchasing decisions.
Builder confidence has weakened slightly due to the overall slow start to the year. Their frustration comes from a slightly different perspective though. Their complaints center on their inability to meet perceived positive demand opportunities due to availability to the three L’s – lots, labor, and lending. New home inventories have remain low as builders struggle to deliver projects because of a scarcity of developed building lots, difficulties in securing adequate trade labor and a stifling construction lending environment. It appears even the new Fed Chairperson, Janet Yellen, shares their concern. Two weeks ago she warned a congressional panel that the recent flattening in housing activity could prove more protracted than originally expected.
But in the end, this slowdown in housing sales may eventually create more long-term stability in the housing market by allowing home price increases to normalize, keeping double-digit surges and another possible housing bubble at bay. The respite may also allow the construction industry to catch up with land development and help build availability in housing inventory. But, a labor remedy may prove more difficult. Attracting new blood into our industry and overcoming immigration hurdles will certainly take a more protracted effort so builders should expect higher labor costs as the recovery matures.
Finally, one needs only look at recent household formation data to understand why current U.S. housing starts are skewed heavily towards multifamily units right now. From 2002 to 2005, approximately 1.4 million new households were forming annually. Since 2009, the average annual rate has fallen more than half to about 600,000 per year. Even more telling, since 2009, virtually all the growth in new households has been attributable to increases in the count of renter households, which increased by more than 2.5 million from the end of 2010 through 2013. No wonder why the apartment market is so hot.
In conclusion, yes, the housing recovery engine may be sputtering a bit, especially when looking at the national picture, but her motor still has plenty of power to keep climbing a pretty steep housing hill. Expect favorable conditions moving forward, even though we may need to occasionally dodge a few pot holes in the recovery road.