TWIN CITIES HOUSING 1Q15: Despite Strength in the Economy, Regulation & Rising Costs are Pushing Buyers into the Resale Market

• Despite many signs of economic growth, the Minneapolis/St. Paul market’s 1Q15’s starts and closing numbers are the lowest in three years.
• The annual rate of new home starts continues to trend down, with starts through 1Q15 down 9.4% from 1Q14’s numbers
• Low levels of lot supply in some markets and submarkets have had the effect of restricting demand and increasing prices at a time when demand has declined and prospective buyers are price sensitive.

May 2015 – Metrostudy’s 1Q15 survey of the Twin Cities’ new home market shows that during the most recent twelve-month period, there were a total of 5,354 new housing units started, down 9.4% from the 1Q14 annual rate. The 996 units started in 1Q15 represent a decline of 9.0% compared to the 1Q14 starts total. The annual rate of closings is at 5,131 units, down 10.5% compared to the 1Q14 annual rate. The annual rate of new home starts has been steadily declining since the end of 2013, with a consistent drop of nearly 10% each quarter.

“Even in the face of strong job growth numbers, very low unemployment, and recent income growth, starts and closing numbers are at the lowest first quarter level in three years,” said Chris Huecksteadt, Director of Metrostudy’s Twin Cities’ market. “Rising construction costs, development costs, increased regulation (energy code and sprinklers for example) have all negatively impacted the potential for growth in the local housing market. In many markets and submarkets, the gap in price between an existing home and a newly constructed home continues to widen, ranging from $125,000 to $225,000. Although the size of a new home is typically significantly larger than that of an existing home, it may still be a bit much for the consumer to swallow, especially for the first time buyer or younger family that cannot afford a new home.”

Nearly every Twin Cities sub-market tracked by Metrostudy saw a decline in construction activity in the first quarter of this year compared to the prior year. Hennepin County is the most dramatic exception, with new home starts in the first quarter up 11.4% from the prior year. The low levels of lot supply in some markets and submarkets have had the impact of restricting demand and increasing prices at a time when demand has declined and prospective buyers are price sensitive.

As overall demand for new homes in the market has slowed, inventory has risen. Since mid-2013, the amount of standing new home inventory has increased 87%. Currently there is a 1.7 month supply of finished and vacant inventory in the Twin Cities market, well below the estimated normal level of 2.5 months, but up from the 1.0 month supply a year ago. With the recent downturn in the pace of new home construction (the rate of lot absorption), and a static level of vacant developed lot inventory, the months of supply for lots in the Twin Cities has, over the past three quarters, risen. The current overall supply of lot inventory stands at 47.0 months. Builders and developers are both feeling the squeeze from a lack of quality lots in desirable locations, leading to more acquisition and development activity. While the overall market shows a slight oversupply of lots, lots in many of the most desirable locations are becoming more and more scarce, leading builders to seek land and lot opportunities in those markets (driving up the price of land) as well as some secondary markets.

 “Although many reports from the field indicate decent levels of traffic – due likely in no small part to the annual Parade of Homes – sales and construction are below the levels expected in the first quarter,” said Huecksteadt. “An uptick was expected in the first few months of the year if for no other reason than to get homes started before the more onerous energy codes went into effect. With every increase in new home prices due to more regulation, a few more homebuyers are lost to the resale market. In fact, the first quarter of this year saw an uptick of 6.7% in resale transactions. Homes are selling, and will continue to sell. There is job growth and people need a place to live. The question is how big a slice of the pie will the new home market be able to cut.”

Rising home prices due to increased construction costs, land and lot price increases, and rising development costs have forced new home prices above levels that could maximize absorption. Many economists foresee the emergence of the first time home buyer and the millennials as an important component of the new home demand forecasts, however, many of our locations are priced above what these buyers can afford. The new home market is unable to reach the largest pool of potential buyers that are out there. Metrostudy does expect the new home market to rebound slightly in the second half of 2015, IF the economy continues to perform and grow at it’s current pace. The current forecast for construction in the Twin Cities market is at 5,500 units, which would represent only a slight – less than 1% – increase over 2014.