Residential housing starts fell 12.3%, multifamily fell 19.8%, and permits (a proxy for future builds) fell 2.2%. Furthermore a recent builder survey found that sales were “sluggish” in June (Marketwatch). What does all this mean for real estate values? Is the market telling us something deeper in these numbers? What are the causes of the large decline in housing starts?
First, to clarify, housing starts are the number of new houses begun during a particular period. In this case housing starts declined for June. June historically is a big month for housing starts as the weather is great and demand is high; a sharp drop was quite a surprise for the market. Is this drop a bigger indicator of economic duress?
4 main causes for the large drop in home sales:
- Mortgage rates: Mortgage rates have risen substantially, they are still low by historical standards, but have increased substantially. This increase is pricing many people out of particular price points and/or housing all together. As rates continue to rise, housing becomes more expensive on a relative basis
- Labor: Labor costs have increased substantially in the last year. According to a builder in Atlanta: “A 3,000-square-foot house that cost $9,750 to frame even late last year now costs $18,000” (Bloomberg). This is due to a severe shortages of skilled labor that has become worse according to a “A high-end home builder who supported President Donald Trump last year, Brown said the president’s immigration policies have dried up the already stretched supply of Hispanic-dominated framing labor?” With the economy near full employment and skilled labor in short supply, prices are rising rapidly in certain trades. These costs are flowing through to the end price
- Material Costs: Material costs have also risen substantially. More than one-third of the lumber in the U.S. is Canadian. In April and June, in the latest salvo in a long-running trade war, the Trump administration added tariffs totaling nearly 27 percent on Canadian lumber. The move will increase lumber prices, add $1,701 to the price of the average single-family home and may already be reducing supply, according to a series of NAHB reports. Then there’s hardware, flooring, steel molded doors, windows and what builders call “finishings,” the lighting, wall covering, fireplaces, countertops, appliances and other bells and whistles that go into a U.S. home. Nearly $11 billion worth of electrical equipment and household appliance imports were used in residential construction in 2015, according to the NAHB, which said even a 10 percent duty on those imports would raise the price of a home another $1,000. (Bloomberg)
- Building codes: Most municipalities have implemented new building codes that specify greater energy efficiency of lighting, heating/cooling, the building envelope, etc.. All of these increased code requirements increase the up front cost of building. For example, to achieve new energy efficiency, new requirements were specified for insulation. This increase in insulation costs more money upfront. I’m not saying that energy efficient building is not a good idea, merely that it makes housing more expensive to build.
Builders have been passing these costs onto the consumer which has led to continued increased costs in most areas. The decline is housing starts could mean one of two things:
- Consumers are no longer willing to pay more for housing: As prices continued to increase, consumers are sitting on the sidelines and opting not to buy that new house (or buying a less expensive one). This is basic supply and demand. As prices increased did this cause demand to drop?
- Builders see something on the horizon: Maybe consumer demand stayed constant, but builders have intentionally slowed their building as they see turbulence on the horizon and don’t want to get caught with excess inventory before the next economic cycle.
What is the market telling us with such a substantial drop?
Unfortunately, we don’t know which of the two reasons for the decline is correct; regardless, a sharp decline in housing starts is not a good sign for the overall economy. The real estate market is one of the largest economic drivers in the United States. According to the National Association of homebuilders housing drives 15-18% of the gross domestic product. If you add on commercial real estate this number is likely closer to 20-25%. With real estate driving such a large percentage of the economy, whatever happens in real estate will flow through to the rest of the economy. The large drop in housing drops is a worrying sign for the overall economy. Is this the leading indicator for the next economic cycle?
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Written by Glen Weinberg, COO/ VP Fairview Commercial Lending. Glen has been published as an expert in hard money lending, real estate valuation, financing, and various other real estate topics in the Colorado Real Estate Journal, the CO Biz Magazine, The Denver Post, The Scotsman mortgage broker guide, Mortgage Professional America and various other national publications.
Fairview is a hard money lender specializing in private money loans / non-bank real estate loans in Georgia, Colorado, Illinois, and Florida. They are recognized in the industry as the leader in hard money lending with no upfront fees or any other games. Learn more about Hard Money Lending through our free Hard Money Guide. To get started on a loan all they need is their simple one page application (no upfront fees or other games).