The housing market did well in October, with construction and existing sales hitting their strongest levels since 2007. New home sales, however, slackened across all regions except the West. The West has been the one consistent bright spot, but really the only one in the new housing market sector. The good news is that the surge in construction that we saw in October should support more new home sales in the first half of 2017. Mortgage applications also surged as would-be homebuyers scrambled to lock into low rates, which will support existing sales through year-end. Tight inventories remain the largest obstacle to better sales, especially in the first-time buyer market. Those numbers hit the highest total since before the financial crisis.
Older millennials, who graduated ahead of the crisis and rented longer, are now willing to move up from the traditional entry-level market and pay a little more to live in or close to urban areas. They remain unwilling to make long commutes from cheaper areas in suburbs that are farther out, despite lower prices at the gas pump.
The hurdles to construction, however, remain substantial. We expect housing starts receded this month after surging in October. Costs for everything from land to materials and labor are rising; that is limiting the extent to which builders can meet burgeoning demand. The only real overhang of inventories is in the one-million-dollar-plus range in suburban markets. Hopeful empty nesters are having a hard time finding buyers for their large homes on sprawling lots. Indeed, many builders I have talked to think some suburbs would do well to ease up on zoning so that larger lots could be divided to build higher-end (not just multi-million-dollar) homes.
In fact, the premium for new homes remained elevated in October.
Historically, builders have moved down the food chain as the expansion matures to build less expensive and larger speculative developments for first-time buyers. That has not occurred during this expansion.
Rising interest rates will limit home sales going forward.
The only offset is wages, which are finally showing signs of accelerating. They are chasing a moving target when it comes to home values, which continue to rise much more rapidly than wages. Existing and new home values both rose more than 5% in October, while average hourly earnings rose only 2.8%.
Bottom Line: The housing market showed renewed signs of healing in October but has yet to break out of the tight inventory cycle that has dominated the market in recent years. We could see some easing of those conditions in early 2017. I am not overly optimistic, however, given the dilapidated state of the existing stock and ongoing hurdles to new home construction. It is hard to find many move-in ready properties in the sweet spot of the market, which in Chicago is now in the $400,000-$500,000 price range; when buyers do find these homes, they face bidding wars.