Stormy Seas Ahead For Homebuilders

At the National Association of Home Builders Semi-Annual Construction Conference the week of April 22, the hosts were handing out umbrellas. Trouble is, it wasn’t raining. The motto of the conference was, “Be Prepared for Anything.” Flyers, saying exactly that, dotted each of the luncheon tables. And then there were stacks of the NAHB’s economic report, sporting a glossy orange cover and a large white headline: “Grab On,” with a life ring pictured underneath.

“Generally the outlook for the housing industry has deteriorated since the beginning of the year,” said NAHB Chief Economist, Dave Seiders. In fact, Seiders, the conference host, decided to change the theme of the meeting a few months ago, from “Recovery” to “Is the Correction Over??” The answer appears to be no.

“It will be a painful correction for people in the housing industry,” said Eric Belsky, who traveled from Harvard University’s Joint Center for Housing. He cites excess inventory as the chief concern. “Until that’s worked off, there’s going to be pressure on house prices, and while there’s pressure on house prices, some people will stay on the sidelines that otherwise would be in the market.”

But inventories are only half of what’s weighing down this sinking housing market. The collapse of the subprime mortgage market, which forced dozens of lenders out of business, and forced those in business to tighten lending standards, has put more houses on the market amid ever fewer buyers. Foreclosures are now up 35% from a year ago, according to California-based RealtyTrac. Inventories of new homes are still hovering around an eight-month supply, while existing home inventories are far lower.

“Until that’s worked off, there’s going to be pressure on house prices, and while there’s pressure on house prices, some people will stay on the sidelines that otherwise would be in the market,” added Belsky.

Prices have been coming down for existing homes for eight straight months, but they’re still high for new construction; the median price of a new home is $254,000, and is up about 6% from a year ago, according to the U.S. Department of Commerce. The median price of an existing home is $217,000, down 0.3% from March of 2006, based on National Association of Realtors data.

“I wouldn’t be shocked, and none of us would feel terrible if prices [of new homes] held here or were down a little bit over the next couple of years. Relative to measures of affordability, real estate prices nationally are pretty expensive,” said Jim Glassman, an economist at J.P. Morgan.

Prices for new homes may be inflated, but the national statistics do not take into account builder incentives and add-ons. Many builders are now offering aggressive financing packages in the hopes of unloading as much inventory as possible. Buyers are biting, but not enough.

On the flip side of home prices, the prices of homebuilder stocks are a bargain. They are trading right around book value now and many analysts see them as a great buy. “The stocks typically will move up even as much as a year in advance of when the actual fundamentals in the industry begin to turn up,” says Stephen Kim, homebuilder analyst for Citigroup. Kim’s presentation to the construction conference was entitled Homebuilding: April Showers.

Kim expects to see signs of a pretty clear recovery in the industry next year, “and as a result we do think that people should be looking to create positions in the homebuilders now, and when I say now I'm talking really over the next three to six months.”

Last fall, at a UBS conference of CEOs of the major public homebuilders, executive after executive predicted the market would turn around this spring. That theory is now all wet. “All that has changed,” said Seiders, as he headed in to give his welcome speech to the conference. “First quarter new home sales were really pretty darned bad, and starts were down further, so the atmosphere in housing has changed a lot just in the last few months, and I pin most of that on the mortgage problems.” As the conference drew to a close, the box of umbrellas was nearly empty.