Betting the house on demographics

Ivy Zelman delivers rosy forecast for housing industry

A chorus of voices is giving hope to the housing industry, which is starting to show signs of recovery. Demand for housing, as measured by pending home sales, was at a two-year peak in October, according to the National Association of Realtors. Builders broke ground on 894,000 housing units that same month, their fastest pace in four years, according to the U.S. Commerce Department. The National Association of Home Builders (NAHB), which surveys its members every month, declared that its Builder Confidence Index hit its highest level in November since May 2006.

Add one more voice to this growing belief: housing analyst Ivy Zelman, a former Cassandra who predicted, early on, that the housing downturn would be long and deep. Using a satellite hook-up at the ProDealer Industry Summit (PDIS), Zelman shared her latest perspective on the state of the housing market. She told a large audience of LBM executives, assembled in late October, that the acceleration of household formation, combined with a dwindling number of available rental units, has created a housing shortage that needs to be addressed — immediately.

“We, as a country right now, do not have very many opportunities for shelter,” Zelman said. Household formation is rising through legal immigration (nearly 482,000 people in 2011) and pent-up demand from adult children leaving their parents’ homes in search of their own apartments and condos. “It’s tough to date when you’re in your 30s and living in your mom and dad’s house,” Zelman observed. And, unlike young adults in some European countries, “people are still falling in love and getting married and having babies,” she added.

Those searching for new dwellings will find a tight rental market, with current occupancy rates for apartments at 94.5%. Renters who can’t find apartments are turning, instead, to renting single-family homes. Occupancy rates for those are also high, at 94.6%. Monthly leases average $1,036 for apartments and $1,150 for single-family houses.

Given these circumstances, now might be a good time to buy a house. But the nation’s housing stock is at an all-time low. Houses being used for rentals are off the market, and production builders cut back on inventory a long time ago. Some home builders have started break ground again, and Zelman predicted 770,000 housing starts in 2012. Zelman & Associates’ official forecast for 2013 is 980,000 housing starts. The 1 million mark will be breached in 2014, when Zelman & Associates has forecasted 1.225 million housing starts.

Of course, many other factors will influence the recovery. More than 2 million foreclosed houses are still listed for sale. Banks will have to start lending to home builders and their suppliers again. On the latter issue, there has been a slight increase in Acquisition, Development and Construction (AD&C) loans, according to the FDIC, and this trend will continue to improve, Zelman said. “Banks are always slow getting back into the housing market,” she noted. The biggest impediment to foreclosures are the states where the process runs through the judicial system; the four states with the highest foreclosure inventories — Florida, New Jersey, New York and Illinois — must use the judicial system to clear foreclosures, according to CoreLogic, an Irvine, Calif.-based information and analytics provider.

Zelman viewed the sustained rise in existing-home prices, which she calculates at 8.8% through July 2012, as another signal that a supply-demand shift is coming. “We believe we are in the beginning of a pretty strong long-term pricing cycle,” she said. States where housing went bust after the building boom — i.e. Arizona, Nevada, California and Florida — are showing six-month price increases that range between 7.5% and 13.1%. These four states, along with Washington, D.C., Texas, Virginia, Maryland, North Carolina and Illinois, account for an estimated 66% of public home builders’ active projects as of the third quarter of 2012, according to Zelman’s research.

Many home builders paint a less rosy picture of their current business conditions, given the shortage of labor and the inflation in building material costs. These problems are being passed on to lumberyard owners, who asked for Zelman’s perspective when she presented at the PDIS event.

Much of Zelman & Associates’ research is based on studying the financial reports of public and private home builders and a monthly poll of home-building executives from around the nation. All else being equal, home builders need a 0.5% home price increase to cover a 1.0% increase in labor and materials, according to the firm’s most recent analysis. In short, builders can cover price increases with minimal price appreciation on the homes they sell, Zelman said. “If they’re pushing back on you [on prices], I think you should have that discussion again,” she said, adding: “Builders are going to have to pay up [if] they want to make Wall Street happy.”

But builders are still gun shy, and no one knows for sure if the federal government won’t wipe out the mortgage interest deduction, or if the FHA’s future is secure. Nevertheless, Zelman foresees a “waterfall of new residential strength” in the next three years. Included in this cascade is spending on home improvement projects, which Zelman and Associates estimates will rise in the “mid-single digits” over the next several years. While many of these purchases will involve houses that were bought and sold, others will go into households that never changed owners.

“The home improvement industry is more dependent on the people who don’t move,” Zelman started. “The power of the female buyer will reignite spending on our homes.” 

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