The Expert Podcast

Sure, we all see that the real estate market is crazy. Prices are up, rent is up, even new home construction is scrambling as fast as it can. Many of the pundits or the news stories say that the way out is to build more houses. Well, it's unlikely that just building more single-family homes is going to be the way to solve this what they call a crisis. And the crisis really just means the prices have gone up. And why? Here's an article from The Street, and we'll talk more about the details.

Single-family property that comes on the market already has a five-to-one ratio of buyers. So building more just by itself isn't going to solve the problem. The housing starts did go up four percent to an annual rate of basically 1.8 million a year. Building permits are maybe 1.87 million a year, and construction is advancing at the fastest rate since 2006. Just 950,000 homes for sale across the country. Inventory has actually dropped. Can construction save a severe shortage? A lot of people say that there's a shortage of five million houses.

Even with 1.7 million new house starts, it will still take years to make a dent because of the high demand. Let's talk about what that means. As we see in the building industry, builders are operating at about the highest level they can right now. In fact, the building pace may drop in the next couple of years for a couple of reasons. Labor is going to be harder to find, materials are going to be harder to find and higher in price, and when the sales volume of homes drops, which it already is, builders are going to hold back and say, wait a minute, why should I build more houses when the sales rate is dropping?

The rate of home sales was very high in 2019, 2020, and the beginning of 2021. Very high rate. The number of houses sold in 2022, the beginning of this year, and even the end of last year, has already dropped in volume. Now, the prices are still up, but the volume has dropped. The volume has dropped mostly because there's no inventory. However, builders and lenders are going to look at that and say, wait a minute, let's not go crazy with building new houses. The sales rate doesn't look like it's going to support that.

Sure, there will be some builders and lenders that will be able to see through that data and know that the reason that houses aren't selling fast is because there's not enough houses in the market, and they'll keep going. But many builders and lenders are going to think back and have flashbacks and nightmares about 2007 and 2008 when there were too many houses built. They're going to hold back.

Just like the article said, even if you build at the rates going now, it's going to take years to put a dent in the market. A dent, not solve it — put a dent. Having a slower building pace is going to even make that dent smaller. Here's a reason why: interest rates are also going up. So the same house that was a $400,000 new house at 6% interest versus two and a half or three percent is going to be five or six hundred dollars more per month, maybe seven hundred dollars more per month for the buyer than it was three years ago.

There are still buyers who are going to buy that house, but not as many. And if inflation goes up at the same time, even if somebody felt they could afford a budget of $2,200 or $2,300 or $2,400 a month, they might say, well, even right now renting at $2,000 a month with inflation the way it is, it's kind of tight, so I don't know if I want to stretch to $2,400 on a mortgage. This is going to keep builders from going all in on building new houses, whether it's a major builder like Lennar or KB or one of the major home builders or a local builder who builds one or two houses at a time.

The homes that will be out there are largely going to come from resales, and that inventory will also be constricted by interest rates because people who are in a house now — it's affordable to them because they have a low rate and a low price point cost basis. Selling their house now is just going to put them out in the shark-infested waters of buyers fighting for the new houses to come in the marketplace. Nobody wants to do that.

So building homes might be one solution, but builders are going to be very cautious about diving in because there's a lot of uncertainty in the marketplace. Even if they continue to build at their current pace, it's not going to solve the problem overnight. And most importantly for builders facing inflation, constructing homes that are at the entry or mid-level is not going to be profitable. The only way as a builder to really make money and support your overhead of all your machines and payroll and equipment and insurance is to build higher-end homes — homes near a million dollars, seven or eight hundred thousand dollars. That's not going to put a dent in the entry-level or working-class home inventory that really needs to be put into the marketplace.