Not since last 2004 have we seen the likes of the current U.S. housing market. Many out there believed that we would never come out from the bottom. Now all those that said we were never going to recover even last year at this time have changed their tone. At that time data were mixed at best, with optimists predicting….well praying….that the sector’s inevitable recovery would provide a needed boost to overall economic growth. Those with a more cautious nature fretted over the number of properties underwater, tight credit conditions, and the difficult-to-pin-down, but nefarious sounding, shadow inventory looming over the market. Members of the bullish camp saw the formation of a floor in home prices as well as a bounce in new home construction as signs that housing, as it had done prior to the crisis, would boost consumer wealth (and confidence) and that the sector again would provide a multiplier effect across other industries. Home sales tend to share the love with furniture and appliance purveyors along with service providers such as cable-TV operators and the local lawn boy. Less directly, rising prices of one’s largest asset should lead to general consumer giddiness, which translates into looser purse strings.
While theoretically all valid points, absent from that logic was the reality of supply and demand. During the crisis aftermath, there was too much supply, and demand…given tepid jobs growth and restrictive credit standards ….was nowhere near sufficient to sop up the excess inventory. In recent U.S. recessions…those caused by inflation-inducing, overheated growth forcing the Fed to raise interest rates….the subsequent lowering of borrowing costs would boost activity in credit-dependent segments of the economy like housing. Not so this time around. America’s attempt to create a perpetual motion machine by having housing become a primary driver of growth, led to absurdly high building activity and once the crisis hit, the stratospheric level of inventory had to be rationalized
Home building on this frenetic scale inevitably outstrips a country’s needs. We cannot export houses like we can automobiles or farm equipment. Back in 2007 one prescient economist stated that in housing-based recessions, first equities turn around, then the economy enters recovery and lastly housing finds a bottom as the inventory overhang is worked through and shell-shocked (and overleveraged) consumers regain the confidence to make big-ticket purchases. Sadly this process could take over a half-decade. The good news is that we are more than that far along since the crisis’s onset and, as evidenced by the following data, housing has apparently turned the corner.
If You Build It, They Will Come…..And Did They Ever.
The country’s ill-fated push into creating an equity society was met with enthusiasm by the building industry. In the 20 years beginning in 1980, U.S. home starts have averaged just over 1.4 million per year. At the housing bubble’s zenith it reached over 2 million. In a particularly nasty example of mean reversion, starts plummeted in the wake of the crisis, averaging 687 thousand (half the long-term trend) over the past five years. The silver lining is that 2012’s number of 781 thousand was a 28% jump over the prior year’s activity. The good news has continued into 2013 with March’s monthly data cresting over 1 million on an annualized basis. May’s figure of 914 thousand represents a 29% gain over the May 2012 figure. True much of the gain has come from multi-family units, the domain of renters, rather than the single family space, which has a more positive knock-off effect across the economy. But this development could be considered beneficial as it rebalances the market away from marginal (i.e. risky) owners and allows the rental space to play catch up.
The overhang in housing inventory can be seen in the chart below. At the end of 2006 there were nearly 540 thousand new homes on the market. As fate would have it, this peak occurred just about the time the easy credit spigot got turned off. Over the ensuing six years, this glut had to get worked off before the industry could once again ramp up its core operations.
Sales of new homes followed a similarly depressing trajectory. Monthly sales on an annualized basis peaked at nearly 1.4 million in July 2005. Sales plummeted to 270 thousand by early 2011, nearly one-quarter of its pre-crisis average. Time has healed this wound as well, given that monthly sales have risen 76% since the bottom to 476 thousand (annualized) this past May. Even when ignoring the distorted figures of the bubble years, if demand for new homes continues to climb towards its pre-crisis average, the increased building activity should provide a tailwind for the broader economy.