A limited supply of new and existing homes for sale in many U.S. markets and a shift in product mix to higher-price move-up and luxury homes have caused a jump in homebuilders’ average selling prices (ASP) so far in 2013. In addition, the decline in housing prices from peak levels and the historically low mortgage rates have contributed to increased home affordability, which has boosted buyer demand despite relatively modest job and income growth over the last year. Over the next 12 to 18 months we expect pricing trends and strong sales volumes will bolster ratings and credit quality of the homebuilders that we rate. But we believe better job and income growth are needed to sustain the housing recovery beyond the next 12 to 18 months, since we expect housing supply will increase from current very low levels, and higher mortgage rates and an increase in affordable single-family housing rentals could dampen buyer demand.
The builders Standard & Poor’s Ratings Services rates have posted an average increase in ASP of roughly 10%, with several reporting even higher increases (see table 1). We expect ASP will continue to grow over the next 12 to 18 months, but the growth rate will likely slow as the supply of homes for sale increases. We expect higher ASPs will enable most homebuilders to widen margins and increase operating profits despite our underlying expectations for increases in labor, materials, and land costs. However, given the relatively modest job and income growth over the past year, improvement in some markets may be more measured, especially if the low mortgage rates that currently underpin home affordability change materially. Mortgage rates are a particularly important demand driver for entry-level homes, since the buyers of these homes are likely to rely more on mortgage financing. We also believe that the recent emergence of sizable pools of investor-owned single-family housing rentals in markets that experienced the greatest degree of price depreciation during the housing downturn could dampen housing demand and pricing in these markets. As the ease and availability of renting single-family homes improve, consumers will have more housing choices, which could limit home price appreciation, particularly for lower-priced, entry-level homes.
Limited Supply Drives Home Price Appreciation
The supply of existing single-family homes for sale totaled 5.3 months in April 2013. While supply was up about 13% from March, it is still significantly below the long-run average inventory supply level. Existing single-family home inventories have fallen significantly over the past year (particularly at the lowest price points) as investors bought much of the distressed home inventory, primarily for conversion to rentals. Supply in the middle to the higher end of the single-family home market has also been limited because many homeowners have been unable or unwilling to sell, either because they owe more than what they could sell the house for or because the equity they have in the home is insufficient to fund a move to a more desirable home.
The supply of new single-family housing is also down significantly from historical levels. Having hit a trough in 2011 at 431,000, new single-family home starts improved over the past 18 months, totaling 610,000 on a seasonally adjusted basis in April 2013. But this number is low compared with the long-run historical average of 1.2 million new single-family home starts annually between 1987 and 2006. With supply limited, prices for new single-family homes have increased substantially through the first half of 2013. ASP increases are significantly outpacing the price appreciation included in our baseline forecasts for the individual homebuilders that we rate, resulting for the most part in better-than-anticipated growth in revenues and EBITDA.
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