The topics of affordable and entry-level housing have probably consumed more pages than just about any other topic since I started writing articles. The challenge that we face is daunting. In a normally functioning housing market, yesterday’s executive housing stock becomes today’s entry-level housing. This relationship makes sense – newer homes should be more expensive than existing homes, all else being equal. However, all else is not equal and the exact opposite dynamic is taking place in many markets – yesterday’s starter homes in desirable locations are becoming today’s executive housing stock as mobility slows and renovation expenditures soar. Back in 2007, American homeowners moved every 6 years on average. Now they move every 10 years. This is a trend that shows no signs of reversing any time soon especially with interest rates on the rise. Couple this with the massive number of entry-level homes that were bought up by investors to use as rentals over the past few years and it’s no wonder that we have an entry-level housing crisis.
The lack of existing entry-level homes pushes this large potential source of home buying demand towards the only other option that prospective home buyers have – new construction. The problem here is that the labor market is tight, commodities prices are rising and impact fees in regions with the worst shortages are generally high. In other words, it’s really, really difficult to build entry-level affordable housing. This chart courtesy of The Wall Street Journal’s excellent Daily Shot email newsletter tells a rather disturbing story.
The “over $500k” market is showing some momentum but the “under $200k” market has essentially collapsed since the mid-aughts and that is where the vast majority of production starts and sales typically come from. Keep in mind that these numbers are for the entire United States. I was unable to find the data set for new homes in California when I wrote this but the median existing home value here is double and I would imagine that the ratio reflected in the chart above is substantially worse.
The bottom line is that it’s going to be incredibly difficult to build new starter homes going forward in this sort of environment. However, this is not for a lack of trying. Generally speaking, any new communities that are priced at the FHA limit or below (at least in California) sells much quicker (in some cases twice as fast) as product priced above it. When I speak with builder clients, the vast majority would prefer to only build less expensive entry-level homes since that’s where the demand is and quicker sales mean better returns. However, it’s incredibly difficult to make the numbers work in an environment where discretionary approvals can drag out for years and costs continue to rise while revenues are often constrained by government-mandated FHA limits. Short of a recession, the only way that the trend will reverse is through easing of immigration restrictions to help with the construction cost inflation issue and weakening the discretionary approval authority that local communities wield over new development. Unfortunately, neither of these is likely to be politically palatable for the foreseeable future. The end result, of course, is this – rent is now eating up record share of US disposable income: