Home away from home
Flying the nest should pay big economic dividends in the United States. As jobs return, the expectation is that droves of 20-somethings will ditch their roommates or vacate Hotel Mom & Dad to get their own places. They may rent more than they buy, but the effects still look profound. Between home building and related activity like furniture sales, Breakingviews reckons new household formation could account for up to a whopping 30 percent of GDP growth through 2019.
Residential construction in large part powered U.S. output during the boom last decade. Ground was broken on the building of over 2 million new homes in 2005. According to the Census Bureau, between 2009 and 2011, so-called housing starts plummeted to an average of just 580,000.
The market didn’t begin to stabilize until the end of last year as the huge inventory of foreclosed homes began to drop. Even five years after the market collapse, the industry is just starting to show signs of life. Sales of existing homes in July increased at their fastest pace in three years, to an annualized rate of 5.4 million, according to figures released on Wednesday. Construction will commence on an expected 912,000 new residences, based on the extrapolation of available data through July. The rate would need to accelerate considerably to reach the average of 1.3 million a year that were built during the 1990s.
It’s all about Americans living on their own again. Federal Reserve economist Andrew Paciorek argued in April that new households should rebound to around 1.3 million annually as unemployment falls to a rate of somewhere below 6 percent. It has been coming down slowly, reaching 7.4 percent in July. Paciorek also figures there’s a backlog of up to 1.6 million because of the recession. Blending the two figures would mean about 1.5 million new households forming for each of the next several years.
That should be great news for homebuilders like D.R. Horton and PulteGroup, though their shares have come down from recent peaks in May. Combining the effects of growing household formation and declining levels of vacant existing houses and apartments suggests some 1.1 million new homes will actually need to be built a year – and sold or rented out – over the next seven years, according to Breakingviews calculations based on Census Bureau data. It’s no wonder real estate broker Re/Max is ready to go public, disclosing plans for an initial public offering this week.
The ramifications should be significant for the U.S. economy. In 2011, residential investment accounted for a mere 1 percent of the country’s total growth. In 2012, that improved to 8 percent. During the bubble, from 2002 through 2005, that housing component only represented 14 percent of the added output. Over the next five-plus years though, Breakingviews estimates it should jump to about 26 percent, using the Congressional Budget Office GDP projections as a baseline and estimating the number of new homes that need to be built to accommodate probable demand after adjusting for the inventory of existing properties.
That isn’t even the full story either. The ancillary benefits from a recovery in household formation probably will be just as significant. New homeowners and apartment renters need utilities and cable service. They tend to buy new televisions, sofas, light bulbs and mattresses. Minor renovations become de rigueur. Based on an estimate from analysts at Barclays, Breakingviews figures complementary sales of furnishings and tools could contribute another 3 percentage points to U.S. growth over the next seven years – taking the total housing-related component somewhere close to 30 percent.
Investors to a certain extent are counting on the upswing. Quarterly results from Home Depot and Lowe’s just beat the expectations of analysts this week, thanks to the housing recovery. The two home improvement chains fetch valuations of around 19 times expected earnings for the next 12 months, ahead of many other sorts of retailers. Sherwin Williams, the $18 billion paint maker, is trading at a robust 20 times the consensus forecast of the company’s bottom line.
Even a spectacular decrease in the volume of co-habitation with parents and friends may not justify some of the enthusiasm in the stock market for housing-related companies. This new boom in household formation is bound to look different than previous ones because of the ownership mix. Private equity firm Blackstone, for example, has bought up large swaths of foreclosed homes and converted them into rentals. Goldman Sachs economists say more than half of 2012 home sales were cash purchases, a usual signal that investors and not owner occupants are the buyers. The consequences of this shift aren’t obvious.
What’s more, for the housing market to become responsible for such an enormous part of the U.S. economic growth story eventually will have other repercussions. The pent-up demand probably means good things for at least a few years. After that, when renters turn into buyers – when borrowing and prices inevitably rise – it could easily foretell the next cycle of roommate creation.