Huge Housing Surplus Will Hammer Homebuilding Market Until 2008

Nov. 3, 2006
Overbuilding, exotic mortgages, affordability issues and the historically cyclical nature of the construction business have put the brakes on one of the longest joy rides in

Overbuilding, exotic mortgages, affordability issues and the historically cyclical nature of the construction business have put the brakes on one of the longest joy rides in the history of the U.S. housing market.

Although economists are confident the housing market is going through a fairly typical construction cycle and will find solid ground before too long, they aren’t certain the homebuilding market has yet hit bottom. At the 2006 National Association of Homebuilders (NAHB) 2006 Fall Construction Forecast Conference held Oct. 25 in Washington, D.C., David Seiders, NAHB’s chief economist, said builders have at least 400,000 new homes to sell and that this “inventory overhang” will take some time to work off. In addition, the inventory levels of owner-occupied existing homes for sale and of unoccupied single-family rental units are now contributing to a soft housing market.

Seiders expects 2006 single-family housing starts to drop from 1.7 million in 2005 to 1.5 million. NAHB’s single-family housing start forecast calls for 1.3 million starts in 2007 and 1.4 million starts in 2008. The 2007-2008 NAHB forecasts are in the mid-range of the typical annual single- family housing starts over the past 15 years.

Many of the markets that seem to have been affected most by the decline are the same markets in the Sunbelt and on the East Coast and West Coast that were leading the nation in residential construction over the past few years. For instance, metropolitan statistical areas (MSAs) that experienced a year-to-date decline in building permits of 30 percent or more through September include some former stars of the residential market: Sarasota-Bradenton-Venice, Fla.; Port St. Lucie-Fort Pierce, Fla.; San Diego-Carlsbad-San Marcos, Calif.; Miami-Fort Lauderdale-Miami Beach, Fla.; and Phoenix-Mesa-Scottsdale, Ariz.

“Building permits have essentially been in freefall,” he said. “They are contracting rapidly and still seem to have some downward momentum. Inventory is the big issue. Demand might stabilize, but there is a lot of inventory that must be worked down one way or another.”

Seiders said it’s important to put the huge drop in construction activity in perspective, because the market had a five-year run where annual housing starts were at or near record levels. He said that the housing boom of 2004-2005 was unsustainable. Barring any unforeseen changes in the global economy, increases in interest rates or an unexpectedly sharp increase in oil prices, he believes this business cycle will start to swing back up by early 2008. Seiders said housing affordability for first-time homebuyers has taken a huge hit, and that it’s at the lowest level since the late 1980s.

While the decline in the housing market first hit the mainstream media in the past two months, Seiders said NAHB had detected a turn in the market’s fortunes back in April. One electrical industry executive attending the NAHB conference said she first saw the drop in June, when sales of her company’s products for the residential market “dropped like a rock.”

Mark Zandi, chief economist,’s, agreed with Seiders that affordability, overbuilding and exotic mortgages are the biggest culprits in this housing bust. “Affordability has been crushed, and lenders were incredibly aggressive in extending credit,” he said. He is very concerned about outrageous home prices and estimates that 100 of the nation’s 379 MSAs — a whopping 45 percent of the nation’s housing stock — is overvalued. Zandi said the markets that may have the toughest time recovering from the decline include Los Angeles, Riverside, Santa Ana, Stockton, Sacramento and San Diego, Calif.; Miami, New Orleans; Washington, D.C.; Worcester, Mass.; and Providence, R.I.

However, even though he believes the housing market is subtracting a full percentage off of the nation’s overall economic growth during the second half of 2006 and another percentage point in 2007, he said the market’s problems “will not short circuit” the U.S. economy’s current expansion.