Reality Comes Home

If a home were designed based on the results of our 2009 Market Trends Report, it would be between 2,000 and 4,000 sq. ft., would include a multipurpose family/media room, home office, great room and outdoor living space.

The home would include energy-efficient HVAC equipment, windows and appliances, a tankless water heater, and added or upgraded insulation. Chances are the clients would cut back on square footage, finish details, landscaping and technology, and even some green products when the budget became tight.

The influence of news media combined with input from the designer/builder would drive the green elements of the home. The clients would have more interest than in prior years in efficient products, insulation, windows, home technology and HVAC equipment. The clients themselves would be between 40 and 49 years old and most likely have trouble securing project financing.

Someone they know will refer them to their design firm, some of whom were among the nearly 800 designers and builders that responded to our annual survey in January 2009. Their responses confirm that fewer homes are being designed and built, that revenue and profits are down and most design/build firms are not hiring.

The charts on the following pages reflect the results of our survey. Rather than review the information provided in the charts, Residential Design & Build lets the numbers speak for themselves and digs a little deeper into housing market trends with representatives of the American Institute of Architects, the National Association of Home Builders and FMI Corp.

The housing market still struggles, but recent weeks have been filled with an increasing number of positive news stories involving the economy in general, the housing market and even the banking world. Some economists, including Bernard Markstein, senior economist, NAHB, who spoke to RD&B in late March, believe the stories are indications we are at the bottom of the recession.

“We think we’re approaching the bottom for residential construction in terms of starts. In the next few months we’ll see some more down numbers, but housing should stabilize by the middle of the year. Then it’ll be a slow recovery in the second half of the year, including a slow improvement in starts,” Markstein says.

Kermit Baker, chief economist, AIA, also believes we’re at the bottom. “We feel we’re at the bottom in terms of production. We’re not likely to see a significant recovery in 2009. But once the economy begins to recover, we can begin to see a rebound in home building at the beginning of next year. We’ve already made some progress along those lines,” Baker says.

There is no doubt 2009 will be down from 2008, but Clark Ellis, principal at FMI Corp., feels there will not be another 30 percent drop in activity. “I think we’re at the bottom. It’s shallow and we’ll be here for a while. It could be a little worse this year [than 2008], but it’s not going to be a disaster. But it won’t be significantly better for a few years. It’ll also be a few years before we know what the sustainable level of production is,” Ellis says.

The stimulus effect

For custom housing market conditions to improve, entry-level market conditions must improve first. Unfortunately this means foreclosed homes must be taken off the market, which is beginning to happen in two ways. One way is the Making Home Affordable plan the Obama Administration launched in February that could halt up to nine million foreclosures by either refinancing or modifying troubled mortgages.

Another way is when bargain hunters snap up foreclosed homes for depressed values. The good side to this is inventory is moving, Markstein says, because there’s a need to clean up that inventory. “But it’s painful, because the bad side is too many appraisers are using foreclosures for comps and that doesn’t reflect reality.”

AIA’s Baker also sees a positive side of the foreclosure situation. “Foreclosures have forced the market rate for house prices to be reached more quickly. Prices were going crazy for many years, well beyond what made sense. To get housing back on solid footing, we needed to see dramatic corrections in house prices. We’re seeing prices correct quickly, and sellers are realizing their homes aren’t worth what they think they are, and think, ‘Maybe it’s worth what the house across the street sold for,’” Baker says

FMI’s Ellis says the uncertainty of home values is making life difficult for everyone. “Mortgage rates continue to drop, which makes me believe there are banks willing to lend, but they must feel comfortable the asset they’re backing is worth it, and that’s difficult to determine right now,” he says.

Regarding the $8,000 tax credit for first-time home buyers, NAHB’s Markstein is disappointed that the original $15,000 credit didn’t survive, despite NAHB’s recommendation. “However, we are grateful for what we did get. The overall bill will help the economy. We estimate that sales will increase higher than they would have without the first-time tax credit [in the stimulus package]. It’s worth mentioning that the term, ‘first-time home buyer’ includes those who haven’t owned a home in the past three years, even if they’ve owned one prior to that,” he says.

The foreclosure legislation will be more effective than the tax credit, AIA’s Baker believes. “To encourage refinancing and modification of mortgages, to bring payments down to 31 percent of a household’s income, to lower rates and extend terms, those actions will get the market moving in the right direction. Those combined with the tax credit have the potential to do the most good for this market,” he adds.

Needs beat wants

When the housing market begins to recover, expect buyers to be more careful with their money, Baker says. Homes will not be as large as they have been, but not for reasons one might think. Decreasing home size is a trend that was picking up steam even before the recession hit.

Historically, home size has been trending up for the past 50 years, with dips during recessions, Baker says. “What’s different here is, we were getting the sense that homes at the upper end were beginning to level off before the recession hit. A lot of the stories I read or discussions I hear indicate home size will not [increase] much after the recession is over. The notion that a home is a terrific investment will not be widely held. People will buy what they need, not what they think they can make money on.”

FMI’s Ellis agrees; “On the custom side, there’s a bit of a desire for smaller but nicer homes. When money was cheap, it was easy for people to get carried away with size. Now you’ll see people downsize, because among other factors, they don’t want all that house to maintain.”

Smaller homes means fewer materials used, which should comfort the 70 percent of readers who expressed concern about material price stability over the next three years. The issue of material price stability is difficult to address in absolute terms, Ellis contends. “There’s always the threat of volatility. Prices have gone way down the past few years, and the economics will tell you they’re going to go up again, but not that much. We will not have the runaway demand we did five years ago,” he says.

Markstein observes that drops in material prices are connected with recessions, so when the economy is on the other side of the recession, prices will go up again. “I think you can tell readers that costs are going to go up. And they can tell their customers that those who build now will be in better shape than those who build later. It’s a question of what will be affordable five, 10, 15 years out. I believe material prices, impact fees and restrictive zoning will be real the issues going forward.”

Slow to green

There is no doubt more homes are being designed and built following green guidelines. Energy-efficient products top the 2009 Market Trends’ list of products whose importance increased in 2008. Yet, more than 70 percent of readers aren’t sure if they’ll generate more revenue from green design and construction this year.

The structure of the residential building industry supply chain doesn’t allow for quick change, FMI’s Ellis says. “A lot of different channels and forces have to line up to make things happen. No matter what innovation you’re talking about, it takes a long time to gain traction because people are risk-averse. From the product side, we don’t have enough data yet on green products. Consumers aren’t sure they’ll be able to recoup their costs, and that’s tough for builder to sell,” Ellis says.

“I want to emphasize that in the custom housing market in general, the real opportunity is with builders who have ideas for how to freshen up their product while reducing costs,” Ellis continues. “People don’t have as much money to spend anymore. It would be silly on a custom project not to think of cost. For designers and builders in the top 10 percent of the market, I encourage them to meet and figure out how to add value while reducing the cost of their structures. This might sound like a different idea for some in the custom market, but they will be well-served to do that. A house doesn’t have to cost more to be more attractive. If they’re innovative and put thought into it they can do nice things and take the cost out of areas homeowners don’t care about that are not value added. Getting builders and architects to work together is critical.”