Why are home builders so happy?

11182_house framingThere were at least two reports which one might consider “material” available last week:

  1. Housing starts
  2. Building permits

Housing starts slumped by almost 10 percent in June. It bears noting that although mortgage rates began rising in May, rising rates accelerated in June. While too early to tell, one might see the correlation between a full percentage point rise in mortgage rates and a drop in housing starts.

The 836,000 (annualized) rate of initiation was the slowest since last October, with much of the decline coming in the multifamily sector. Single-family starts slipped by just 5,000 units from May, while multifamily starts slumped by 87,000. After a stronger four month period earlier this year, single-family starts softened somewhat and have held nearly flat for the past three months.

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Permits for future building activity slipped by 7.5 percent in June. Both permits and starts are strongly above year-ago levels, but the trend isn’t rising, and higher mortgage rates are a new headwind to additional gains.

Builders are happy

This being the case, it would seem odd then that builders are happier than they have been in a long while. The latest indicator from the National Association of Home Builders rose strongly in July, adding six points to land at a recovery high of 57 for the month. Sales of single-family homes, expectations for the six months coming and the measure of traffic at showrooms and models all rose.

Why would builders be happier?

Arguably, it’s a matter of perspective. After several unbelievably lean years, sales of new homes have picked up, profitability is returning and the prospects for continued recovery are bright.

For builders, the worst has passed and there is plenty of opportunity to grow, even if we never again see the near 1.4 million (annualized) peak rate of sales. New-home sales could easily grow 100 percent from these levels over the next few years, and that would still leave us shy of a million units.

How will rising mortgage rates affect demand?

The expression of happiness by builders for their business lines and models doesn’t mean there is nothing to worry about. Even a small cooling of sales and starts can have a wide-ranging ripple effect on the economy. At least initially, a rise in mortgage rates can spur sales as buyers rush to close deals in place, but the concern is how a rise in mortgage rates (and coupled with firmer home prices) will affect demand later this summer and beyond.

And mortgage applications?

One other indicator is pretty clear on the effect of rising mortgage rates. Fixed mortgage rates at two-year highs have pushed applications for new mortgages to two-year lows, according to the Mortgage Bankers Association. Purchases are holding up better than refinances, which have largely vanished, but activity for purchase apps has been muted of late, too. The entire decline in applications has come since mortgage rates began to rise in mid-May.

How purchases differ from refinances

Unlike refinancing activity, which is more purely driven by interest rates, the purchase of a home has a good number of moving parts, all which need to align well before a transaction can happen.

Interest rate–and the effect on a monthly payment–is certainly a consideration, but not usually the primary one. Also, there are other items which can promote demand for housing, employment, household formation and income growth among them. If the economy can move beyond a sputter, home sales will continue to rise, especially if mortgage rates (and corresponding monthly payments) remain reasonable.

In conclusion…

There are few signs at the moment that any powerful surge in growth is coming. More likely, we’ll continue to lurch forward in fits and starts and hope that no external shock crushes growth.

HSH Associates Financial News Blog

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