By Morgan Housel | More Articles
January 23, 2012 | Comments (12)
Last month, Yale economist and housing expert Robert Shiller told me that we should be prepared for the possibility that home prices could decline in real (inflation-adjusted) terms for several decades. It’s happened before, and it will probably happen again.
But there’s an important distinction to make here. Housing prices could stay flat or decline, but housing construction increasingly looks like it’s not only near a bottom, but ready to snap back. That’s important, because housing construction tends to be a big driver of economic growth. From 2003 to 2006, construction accounted for over a quarter of all economic growth. Since 2008, it’s dragged economic growth down by over 9%.
A few things to keep in mind: The housing bubble that caused the mess we’re in wasn’t brought about just by inflated prices, but by a massive overbuild. Because prices were so high and credit so easy to come by, homebuilders had a huge incentive to build as many homes as they could. The result was epic: From 2001 to 2006, 11 million homes were built in the United States, but only 8 million new households were formed.
To compensate for that binge, new home construction utterly fell off a cliff in recent years:
Source: Federal Reserve.
That drop in housing construction is a big part of why the economy has been so slow. It’s not just construction jobs that get whacked when housing dries up. Everyone from mortgage brokers to Home Depot staff to furniture salesman suffer as well. And as all those workers get laid off and stop spending money, the pain moves down the economic ladder. It’s an ugly cycle.
But there’s evidence that it’s starting to turn around.
Rental prices on apartments are rising briskly, and rental vacancies have dropped like a rock to the lowest level in over a decade. Apartment rental rates in several metropolitan areas are rising at double-digit rates, and nationwide are expected to rise between 4.5% and 5.5% this year. When I signed a lease on my current home of Seattle in 2009, I felt like I could negotiate nearly anything I wanted. When I renewed a few months ago, I could barely get a word in — it was “take it or leave it.” The rental vacancy rate, which was as high as 8% in 2009, is now just 5.2%, according to housing data firm Reis. Even when the economy was booming, the vacancy rate stood at or near 6%.
As more young households that had been discouraged from owning a home suddenly become even more discouraged from renting an apartment — and as developers receive the demand to build more apartments — construction should rise.
And it looks like it already is rising. While 2011 saw the lowest level of housing starts since the Census Bureau began collecting data in the 1950s, the numbers are bouncing back ever so slowly. After bottoming at an annual rate of 480,000 in 2009, housing starts have now rebounded to around 660,000, and are expected to total over 700,000 this year.
The numbers have to eventually rebound — and sharply. Housing construction is at the lowest level it’s been in a half-century, but even that figure doesn’t show how depressed the industry is. When you adjust housing starts for population growth, you get a better understanding of how abandoned the industry has become:
Sources: Federal Reserve and author’s calculations.
Keep an eye on the y-axis. Since 1959, housing starts divided by U.S. population has averaged around 0.006. Today, it’s 0.002. Think of it that way, and it’s not a stretch to think that housing construction could eventually rebound threefold, maybe more.
The question is: When? And while it’s impossible to predict this stuff with any precision (if at all), I have a feeling we’re closer to the bottom than some assume. Between housing starts being unsustainably low, low vacancies pointing to pressure in the rental market, and housing numbers already starting to perk up, it looks like the tide has turned.
Several things could pull the market back into decline. There’s still a large number of homes waiting to be sold either by banks holding foreclosed properties or by homeowners waiting for a better price to sell. If this number — called shadow inventory — is larger than we expect, the market could face another leg down. And if unemployment rises or the economy slips back into recession, that too could send the industry back down.
But I think the most likely outcome is that housing will make a noticeable turn within the next year or two. That could be great for the economy, and great for companies like KB Home (NYSE: KBH ) , MDC Holdings (NYSE: MDC ) , and Meritage Homes (NYSE: MTH ) — all three of which I’ve given a green thumbs-up to in my CAPS account.
Disagree? Tell me why in the comments section below.
