We can study historical data all we want—and we do—but strategic decisions made today by housing industry executives as well as home buyers and sellers are what moves the market. This is correlated with but not identical to what happened in prior cycles. Here is a bit of what we have learned.
The recent backdrop
The undersupplied US housing market went through a boom where:
- Home prices increased at least 1% per month in almost every metro area for 30 consecutive months.
- Rents initially stalled and then boomed 1%+ per month in many areas for most of 2021 and early 2022.
Now, rising interest rates, high inflation, economic uncertainty, deteriorating consumer sentiment toward home buying, and the end of the rental demand boom have completely reversed the housing market’s trajectory. New and resale home prices are falling despite very low unsold inventories in both, which is a rule of thumb from past cycles that is clearly not valid this cycle.
How we get to conclusions
We arduously study all the data we can get our hands on, produce thousands of pages of reports—as well as sortable data dashboards—with analysis each month, and collect our own data where we think insight is missing. For years, we have been:
- Geocoding all the locations of more than 700 home builders.
- Surveying a massive sample size of public and private home builders, land developers and brokers, resale agents, remodelers, building material manufacturers and dealers, house flippers, interior designers, architects, and consumers.
- Summarizing the market insight and strategic intentions that publicly-traded home builders (42% of all new home sales), building product manufacturers and rental housing REITs share on their quarterly earnings calls.
- Interviewing thousands of new home and rental sales agents onsite each year as part of our feasibility study consulting services.
- Updating the demographics share in our 2016 demographics book.
- Reading everything we can, looking for what we don’t know.
- Hosting conferences and daily phone and zoom calls with a very diverse group of industry executives to help gauge where the market is headed next.
All of this informs our own business, as well as our client’s businesses, on what to expect.
Conclusions to wrap up 2022
Since Fed Chairman Powell’s reappointment earlier this year, virtually all of the news has been negative. And we shouldn’t blame Powell or the US politicians, as the news worldwide hasn’t been any better. Here is a brief overview of what we see happening.
Home builders
A few very large builders have publicly announced they are going to keep building and selling homes at a fast rate, dropping price to do so. Far more builders have announced they are going to slow it down, at least until they build up some standing inventory for the spring selling season. Every company’s financial situation and brand differs, so there is no one right strategy for all. Here is what we think happens:
- Labor: The builders who keep building will get the best labor and the best terms.
- Materials: The builders who keep building will get the best materials and the best terms.
- Cash flow: The builders who stop buying land and keep selling homes will generate the most cash. Some will build a war chest and will continue buying back their own stock which is trading below book value. Others will need every penny to repay debt.
- Home prices: It only takes 3 homes to be sold in a neighborhood to reset prices. We are looking closely at every neighborhood with our clients to determine where that neighborhood’s future is headed. This is a location-by-location analysis.
- Profits: Home building profits are near record highs today. Every firm we speak with acknowledges profits are coming down.
- Risk: Each company’s appetite for risk varies. Many are betting that rates will be lower next year, in line with the bond market consensus. Others refuse to take the bet. There is no right answer today, but willingness to take risk will certainly impact next year’s home starts and prices.
Building product manufacturers
- Bypass your distributors and your own salespeople: For intel, go straight to the end users of your products. What are the builders and contractors going to do? What is happening to their backlog? Are they going to pivot to different materials or designs? Your distributors and salespeople may not know these things. That is why we survey the end users, and bring them together at our conferences. Please do the same.
- Pivot: What channels and materials will increase/decrease more than others? DIY or Professional installation? New homes or remodeling? For sale or for rent? The Northeast or the Southwest? What supply is tight and what is competitive?
- Material by material: While we can make conclusions about the demand for materials, the supply side of the equation varies for each building material. Materials with declining commodity costs and supply chain improvements will be able to drop prices relatively easily. Other materials that don’t get cost relief will drop prices only as a last resort.
Rental homes and apartments
- Study demand carefully: The apartment sector has shifted from a massive opportunity in 2021 to a solid opportunity in 2023. Rising mortgage rates will keep more households renting. However, the COVID-induced household formation surge that led to double the normal increase in occupied apartments in 2021 has reversed.
- Beware apartment supply: A 40-year high of multifamily construction should be completed and offered for rent in 2023. Be very careful, and don’t just assume that your lower rent apartments won’t be impacted. They will as tenants realize they can rent a nicer apartment for the same rent they are paying today.
- Beware rental home supply: There is a lot of potential for increased competition here from:
- Home builders who collectively have recently marketed tens of thousands of under construction and to-be-built to rental landlords. These homes were originally intended to be sold to owner occupants.
- Resale homeowners who are moving and have the financial wherewithal to continue owning and renting their current home, taking advantage of their great long-term fixed rate mortgage.
- Traditional apartments, which could easily put downward pressure on rental homes as the 40 year high of apartments lease up.
- Location: Rental location will likely matter more than ever. For short-term investments such as construction that intends to be sold upon lease-up, supply-constrained neighborhoods in pro-growth metro areas should fare far better than vice versa. For long-term owners, locations near any of the massive new job reshoring plants that purport to add 350,000 jobs should be winners.
The themes here are:
- Gather more intelligence than usual
- Conduct more hyperlocal analysis than usual
- Keep your eyes and ears wide open so you can move more quickly than others
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