Contrary to media and public perception optics, home builders do not raise prices willy-nilly. Nor do they raise them every time their own construction costs rise, although they'd like to, if only to keep investors happier.
Pricing new homes to market is an art and a science. Experts in its practice have forgotten more than we'll ever know. Clearly, now, with interest rates as an expected but new wild card impacting what buyers' monthly payments on principal and interest for a mortgage will be to finance a new home, pricing practices, strategy, and tactics are getting a stress test.
One top 10 home building firm has data that indicates a flash-point on house prices it's unwilling to risk triggering. An executive there notes:
"For every $1,000 we add to the selling price of a home in our [seven state] operating regions and divisions, we know we'd eliminate 250,000 households from our qualified buyer pool in those markets and submarkets."
Right now, that's not a risk builders willingly take.
New data from a BTIG/Homesphere survey of 75 to 100 small to midsize builders whose operations sell from 50 to 100 homes per year indicates that builders' ability to pass-along construction cost increases may have hit a cycle tipping point. While builders haven't gone so far as to lower base prices, more and more are apt to do the next best thing in order to keep driving the pace of absorptions in each of their subdivisions and communities.
For the last five-and-a-half months of 2018, we're going to be hearing one word a lot: Incentives. Here's how the BTIG/Homesphere analysis contextualizes it:
This month no builder surveyed reported a drop in base prices. 39% raised most or all of them, down from 50% in June. The 42% reporting increases in sales incentives was up from 33% in June, but note we would expect this trend to increase seasonally through the year. Not a single builder surveyed reported seeing lower mo/mo costs in land, labor nor materials.
The analysis noted as well, "we continue to see bifurcation in demand with lower-end builders reporting better results than mid-price point builders."
The most-recent analysis in The Z Report makes similar observations--"many builders increasing their exposure to more affordable price points of late, which is putting a downward skew to reported prices"--and comes to an identical conclusion about tactical pricing to keep pace and volume levels cranking:
"Any potential further deceleration in order activity will likely result in heightened incentives into year end, which could put pressure on gross margins heading into 2019."
And yet, flush with the well of pride and achievement from profit levels they haven't reached in more than a decade, builders, naturally, are reluctant to capitulate now, especially when they need to start amassing "dry powder" for an almost inevitable next downturn.
American home builders' in-the-trenches pulse reading on buyer demand continues to be buoyed by structural economic strength, strong job formations, and family and household formation rates that have regained mojo.
Yesterday's release from the National Association of Home Builders of the NAHB/Wells Fargo Housing Market Index--which picks up a degree of sensitivity to geographical and price segmentation differences across its national sample--reveals solid confidence levels on a broad stroke national basis, for both current conditions and six-month ahead expectations.
The real area of concern is with the $800 or $1000 "break points" that can actually price out potential buyers by the tens of thousands, or in the case of the home building company mentioned above, the hundreds of thousands.
Those price rigidities occur because of a simple fact--and it's not going to go away--cost increases are outpacing household wage increases. Firms leveraged a soft economy and cheap labor for long enough that now they can trigger technology, automation, data, and artificial intelligence to keep wage inflation from gaining momentum.
This means builders are left with two choices--capitulate on gross margins or increase economic productivity levels to offset their increased construction costs.
A parting thought challenge for you to ponder here. If a $1,000 increase in a per unit price for a builder prices out a quarter-of-a-million prospective buyers in its operational footprint, what would a $1,000 decrease in a like-for-like unit do to that buyer pool?
Housing starts are out later this morning, which should correlate in large part with yesterday's builder sentiment data from the NAHB, showing confidence in fundamental demand. But watch the orders, the new-home sales data, the contracts, and the pending sales data as those benchmarks come in over the next few months. Any continued slowing growth, or the first sign of negative growth, and you'll see builders start using every tool in their bag of tricks when it comes to incentivizing buyers to monetize those pieces of real estate.
No time like the present for operational excellence, especially as the potential catastrophically expensive difference between speed and velocity pronounces itself when builders try to amp up their inventory turns and use tactical pricing levers to do so.
Speed is merely fast, and almost always comes with defects, miscues, and the need for do-overs. Velocity, Fletcher Groves, III, will tell you, is not about speed. It's about moving through processes in an economically and operationally profitable way. It's about generating the most value with the least waste of resources--time, people, money, materials, etc.
Bring it!
