An average of only 500,000 single family units have been built annually since 2009. This is way below the annual average of one million for the previous 25 years, which means a shortfall of three million houses over the past six years.
During the bear market that ended in 2009, I tried to follow Warren Buffett's advice to be greedy when others were fearful. But I found it hard to hold onto stock purchases when they kept going down day after day. Indeed, I confess to dumping some holdings just after they were bought.
One big exception was the SPDR S&P Homebuilders exchange-traded fund (XHB). My conviction level was high on U.S. home builders. The reward since then has been a gain of more than 200 per cent. So here I am six years later with the same level of conviction, penning another bullish article.
The bullish thesis begins with the observation that there is still plenty of pent-up demand for houses in the United States. An average of only 500,000 single family units have been built annually since 2009. This is way below the annual average of one million for the previous 25 years, which means a shortfall of three million houses over the past six years. That's how many should have been built if historical patterns had held.
We seem to be getting close to a tipping point. Of note – as Realtor.com chief economist Jonathan Smoke told businessinsider.com – is the creation of three million U.S. jobs over the past 12 months. One million went to people aged 26 to 34 years old, the group that buys houses the most. In short, when a lot of unemployed people get jobs, especially young adults, a lot of homes should be bought.
True, demand for accommodation does not necessarily translate into demand for owned accommodation. People can rent instead. Indeed, there has been a rather big shift within the United States toward renting since 2009. But as a result, vacancy rates have tumbled and rents have outpaced wage gains. According to Zillow Inc. chief economist Stan Humphries, it's now reached the point where owning a house is considerably more affordable than renting.
In addition, the inventory of existing houses listed for sale is at a 14-year low, with the average age of existing houses at an all-time high. This makes buying a new house more attractive, too.
There are some tangible signs of the tipping point being close at hand. The Housing Market Index of the National Association of Home Builders (which surveys builders on market conditions and customer traffic) is beating expectations and climbing sharply. It now stands at a post-recession high of 59.
Meanwhile, building permits, a leading indicator of construction activity, have jumped to the highest level since August, 2007. Pending home sales are at their highest level in nine years. Finally, futures contracts for lumber, a basic input into the home building industry, have pulled out of their nosedive and are rebounding sharply over the past four weeks.
The strict credit standards set up after the financial crisis of 2009 are easing, too. Regulatory agencies have reduced down payment requirements and banks have lowered credit score requirements, among other changes. More relaxation of credit conditions can be expected if the historical pattern for business cycles continues to play out.
Some fear a rise in mortgage rates. However, they are not likely to go up much given the 20-per-cent trade-weighted rise in the U.S. dollar since 2010. This has had the effect of curtailing exports and industrial production in the U.S. to keep gross domestic product growing at non-inflationary rates. The end result: Fed rate increases shouldn't pose a significant threat for quite some time.
An alternative to the SPDR S&P Homebuilders ETF is the iShares U.S. Home Construction ETF. It gives greater weight to home builders, less to housing-related companies such as Home Depot Inc.
Larry MacDonald is an economist, author and financial writer.