No one could have predicted it. Not the economists, not the
real estate agents, and especially not the nation’s homebuilders. But a
pandemic caused an emotional run on housing unlike any other.
Now, one year after the Covid-19 crisis shut down and warped
so much of American life, things are still unpredictable, but the outlook isn’t
bright for housing. In fact, it looks like the perfect storm for a correction.
Home prices are overheated, mortgage rates are rising, the
supply of homes for sale is anemic and consumer confidence in the housing
market is falling. Pandemic-related mortgage bailouts are set to expire this
summer.
A year ago, home sales ground to a halt. No one wanted to
buy or sell or even enter a home, given all the physical and economic uncertainty
that Covid-19 brought. But just a few months later, housing hit the gas pedal,
and prices followed.
The frenzy was hugely emotional, as the nation saw most
aspects of daily life suddenly confined to its properties. Space became a major
asset. It was also fueled by very attractive mortgage rates, which set more
than a dozen record lows.
After plunging nearly 18% from March to April and another
10% from April to May, sales of existing homes shot back up nearly 21% in June,
according to the National Association of Realtors.
“The sales recovery is strong, as buyers were eager to
purchase homes and properties that they had been eyeing during the shutdown,”
Lawrence Yun, NAR’s chief economist, said at the time. “This revitalization
looks to be sustainable for many months ahead as long as mortgage rates remain
low and job gains continue.”
Yun was right – but his prediction still turned out to be
too conservative. Homes sales were not only sustainable, they were robust. By
August sales were running at the fastest pace since 2006.
Americans, unsure when they would be able to get back out in
the world again, were looking for more indoor and outdoor space. They wanted
dedicated rooms for working and schooling at home. Manufacturers of accessory
dwelling units, which are small backyard tiny houses, saw demand triple. People
wanted additional space and, yes, some solitude from all that family time.
The strong demand for housing, however, came at a time when
the supply of homes for sale was already low. Much of that was due to a
still-slow recovery in homebuilding from the Great Recession. When the pandemic
hit, sellers pulled back, not wanting to let anyone in their homes nor to move
themselves. What followed were drastic changes in every facet of the market.
Mortgage rates
The average rate on the popular 30-year fixed mortgage began
2020 right around 3.75%, according to Mortgage News Daily. It then fell at the
start of the pandemic in March, shot up briefly in April, when the first
economic stimulus was announced, and then dropped precipitously throughout the
rest of the year, setting more than a dozen record lows.
Now rates are moving up again, as another financial stimulus
passed, and the economy begins to finally open up significantly. The recent
jump in employment should keep rates on an upward trajectory.
“The home-sales market will experience countervailing forces
of the higher push from more jobs, but also the pull back of higher mortgage
rates,” said Yun, after the February employment report was released. “We will
have to wait to see which force will be stronger.”
Yun noted that in 2018, the economy saw strong job creation,
but home sales fell because mortgage rates rose from 4% at the beginning of the
year to 4.6% by the year’s end.
Homebuyers have already lost considerable spending power. To
be specific, a homebuyer loses $23,250 in spending power with a mortgage rate
of 3.25% versus a 2.75% rate, according to a recent calculation by Redfin.
Home prices
Low mortgage rates last year, combined with low supply and
high demand for housing, lit a furious fire under home prices.
By January of this year, prices were up more than 10% year
over year, according to CoreLogic. Prices are now rising at the fastest pace
since 2006. In some markets, like Seattle, Phoenix and San Diego, the gains are
even larger.
These enormous gains have led some to claim the housing
market is overvalued. A recent report from Fitch Ratings claimed prices
nationally were 5.5% overvalued.
“Slowing employment recovery and still-high unemployment
levels are not supportive of long-term sustainable price growth,” wrote Suzanne
Mistretta, senior director at Fitch Ratings.
Affordability has weakened substantially, especially for
first-time homebuyers. Prices have risen most at the low end of the market,
where supply is leanest. The homebuilders have also raised prices, given higher
demand and higher construction costs.
Newly built homes have always come at a price premium, but
now about 75 million households (roughly 60% of all U.S. households) are not
able to afford a median-priced new home, according to a fresh calculation by
the National Association of Home Builders.
Weaker affordability is the prime reason for a potential
slowdown in housing this year. Sales are already slowing, as mortgage rates
rise. Given how much housing demand was pulled forward last year, sales could
be considerably weaker this year.
One bright side of higher prices, however, is higher home
equity. Homeowners are house rich, gaining a collective $1.5 trillion in 2020,
according to CoreLogic. That’s an average gain of $26,300 per homeowner, since
the fourth quarter of 2019.
“This equity growth has enabled many families to finance
home remodeling, such as adding an office or study, further contributing to
last year’s record level in home improvement spending,” said Frank Nothaft,
chief economist at CoreLogic.
An epic housing shortage
In addition to high prices, buyers this year are facing the
worst supply situation on record.
There were nearly half as many homes for sale at the end of
February compared with a year earlier, according to a new calculation by
realtor.com. Low supply was exacerbated by a drop in the number of new listings
to come on the market in January and February, due to exceptionally icy weather
in much of the country.
The result is that this is currently one of the most
competitive housing markets in history.
Nationwide, 58% of home offers written by Redfin agents
faced bidding wars in January, up from 53% in December. That makes nine
straight months in which more than half of all offers saw competition.
Urban flight? Not exactly
While there was plenty of evidence that high-rise dwellers
in New York and San Francisco fled the cities last summer, the urban flight
story line doesn’t hold up entirely. There may have been an exodus from large
buildings, and some renters did opt to buy single-family homes, but really it
was more of a relocation and reconsideration of living conditions than anything
else.
People didn’t flee cities, they simply bought larger homes
in the city or relocated to smaller cities where larger homes are more
affordable. The work-from-anywhere conditions caused some to head south to more
amenable climates.
“For all the talk of an urban exodus, the housing market in
cities is as hot as we’ve ever seen it, especially for single-family homes,”
said Daryl Fairweather, Redfin’s chief economist. “There are plenty of buyers
out there with deep pockets who are coming out ahead financially during the
pandemic. They want a house with lots of space while they are still working
from home, but they also want to live in a walkable area near urban amenities
as shops and restaurants reopen.”
Home price growth in affordable cities like Detroit,
Cleveland and Baltimore are far outpacing price growth in New York City and San
Francisco. New York, however, is already seeing demand return. Sales contracts
in Manhattan for residential real estate spiked 73% in February year over year,
according to Douglas Elliman and Miller Samuel. and the bargains are fading.
Builders are struggling
What the housing market really needs now is more houses, but
the nation’s homebuilders are struggling.
They were woefully unprepared for the surge in demand last
summer. Some builders had laid off workers and shut down operations at the
start of the pandemic. They didn’t expect such a strong recovery.
Material prices, especially for lumber, have skyrocketed. A
shortage of skilled labor and a lack of buildable lots are ading to the cost
pressures. Higher prices have added about $26,000 to the construction cost of
the average new home, according to the National Association of Home Builders.
As a result, some builders, including several of the
nation’s largest, are actually slowing production, hoping prices will ease
soon. The number of single-family homes permitted but not started jumped 9.6%
in December and was 28% higher than a year earlier, according to the NAHB’s
chief economist, Robert Dietz.
It has exacerbated the housing shortage.
“We estimate right now, even with households that have been
consolidating, as young adults have been moving back with their families, we still
think we are at a deficit of roughly around 900,000 units in the U.S. in terms
of what we need just to get back to normal in terms of single-family,” Ivy
Zelman, CEO of housing research firm Zelman & Associates, said on a recent
webcast from Willy Walker of Walker & Dunlop.
The rise of single-family rentals
The supply crisis in for-sale homes gave the single-family
rental market an enormous boost during the pandemic. It will only get stronger,
as all signs indicate.
Rents for single-family homes are rising at a strong pace,
and occupancy is much higher than for multifamily.
Single-family rental REITs, like American Homes 4 Rent and
Invitation Homes, have seen incredibly strong returns. They are now building
homes specifically to rent. The share of all homes specifically built for rent
is rising steadily.
“We’re talking to builders that might have built a hundred
homes for rent, and next year it’s going to be a thousand,” said Zelman. “The
magnitude of growth coming in the industry, and the partnership with
single-family operators is really the strongest asset class out there. I call
it the prettiest girl at the dance.”
Doubt and innovation
The outlook for housing in 2021 is mixed. Some sectors, like
single-family rentals, should thrive, while the for-sale market is facing a
bevy of headwinds. Affordability is No. 1 on that list.
Consumer confidence in the housing market fell in February,
according to the most recent monthly sentiment survey from Fannie Mae. People
think house prices will continue to go up. As a result, the share of consumers
who say it’s a good time to buy a home dropped from 52% to 48%.
The share of respondents who think it’s a good time to sell
also fell. That is likely because they are concerned about buying another home
when prices are so high, and because they don’t want to lose their low mortgage
rate and trade it for today’s higher rates. Fewer sellers will only exacerbate
the supply crunch.
While very little is predictable anymore, given the slow
march to widespread vaccination and “normalcy,” there is no question that
Americans’ attitudes toward their homes have changed.
All of these difficulties have bred innovation, too.
Technology in the home and in-home construction are both on steroids now. This
could well drive much-needed changes for labor, materials, sustainability and
resilience.
The pandemic drove a new desire for clean-home technology.
Homebuilders stepped up immediately. One of the largest, Pulte Homes, announced
several consumer-inspired, healthy features, including whole-house water
filtration, hospital-grade air filtration, antimicrobial quartz countertops and
touchless faucets.
“A recent PulteGroup survey found that more than half of
consumers (60%) say the most important attribute in how their home can support
them is health and wellness,” said John Chadwick, chief operating officer at
PulteGroup. “As a direct result of the pandemic, consumers are seeking homes
that will help them stay healthy.”
Another major builder, Lennar, announced a new partnership
with Ring, expanding its connected home features with everything from smart
security and temperature control to products that alert the homeowner when
there is a leak.
An entire suite of smart features can be put into the home
during construction. Part of that was inspired by research that said homeowners
were fine doing some DIY projects but didn’t want to have to have professional
installers in their homes for more high-tech products. That sentiment was of
course intensified by Covid.
The housing shortage also jump-started the fledgling
business of 3D-printed homes. Several companies are now jumping in with plans
for whole 3D-printed communities. One of them, Icon, which had already printed
a small community in Austin, Texas, for the homeless, just completed its first
for-sale community in partnership with developer 3 Strands.
“We have more people asking for us to build houses than we
know what to do with now. Every construction system we have is booked up for
the next 24 months,” said Jason Ballard, CEO of Icon. “Our company will more
than double in size this year. It’s every entrepreneur’s dream.”
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