John McIlwain, ULI Senior Resident Fellow for Housing, describes the U.S. housing market, and how it will be affected by demographic trends. John’s talk was recorded at a gathering of ULI trustees on Jan. 26, 2010.

At the end of 2009, the area had 149,277 lots, down slightly from 149,782 in 2008, but above the 143,253 lots in 2007.

The inventory of lots kept rising because even has Atlanta’s housing market crashed, lots continued to be developed, said Eugene James, director of the Atlanta division of Metrostudy Inc., a residential real estate research firm.

“We were watching developments being reluctantly finished up,” James said.

In the 12 years Metrostudy has been recording data from metro Atlanta’s housing market, the area had the fewest new home starts — 4,400 — in 2009, James said.

That means in 2009, effectively only 500 lots came off the market in the metro Area, or about 1/3 of 1% of the available developed lots. Doing the math on new starts, 3,900 lots were developed last year in Atlanta.

At 4,400 new homes a year equates to a 34 year supply if no new lots were developed. A reasonable number of starts for the metro area in a normal economy is probably in the 20,000 unit range, meaning there is about a 7 year supply of lots. However, the reality is that anywhere between 10-20% of the current developed lots will likely never see houses on them either because of location or other factors including poor configuration and environmental concerns.

A good article from Inman News highlighted the area that many investment funds are headed to – residential lots.

As a result, finished lots are being dumped back into the market at 50 cents on the dollar — or much, much less — by builders and banks, which took back the properties due to loan defaults.

In bigger developments, investors have been buying these lots at 30 cents on the dollar, notes Nate Nathan, president of Scottsdale, Ariz.-based Nathan & Associates. In fact, well-funded investor groups have been sweeping up these long rows of unfinished lots by the dirtful leaving individual investors with no other option than to haunt smaller projects. And that, too, has been a worthwhile use of time and resources because, as Nathan points out, customized lots are selling for 10 cents to 20 cents on the dollar.

Think of it this way, lots are being acquired below finishing costs, which if new construction proceeds means the land cost is negligible, if not zero-valued.

The article noted that investors are expecting to hold the unfinished lots for 3 to 4 years and that they aren’t expecting significant new building to start until 2012. It also notes that we’ll need 1.2 million housing units in the next 10 years for population growth alone. (1.1 million units were built in the previous two years.)

Residential News

The WSJ says we don’t need to get worked up about Monday’s home sales report. Meanwhile, the ENR reports that while there won’t be a recovery in housing in the immediate future, one person believes that we’ll see 15%+ growth towards the end of the year and into 2011. In line with the weak housing numbers, Tom Royce reports that the Builders Confidence Index has dropped. Finally, not surprisingly, the WSJ reports that the number of subprime mortgages currently with negative equity is 6 in 10 borrowers on both the national and Atlanta level.

Commercial News

CIRE magazine highlights market trends for all sorts of markets and Atlanta is mentioned several times. The AJC summarizes the Atlanta office market. Finally, the WSJ thinks the worst is over for the commercial real estate market.

GA DOT

Lots of news on the transportation front this week for Georgia. Maria Saporta says that if we can’t do transportation funding right, then don’t do it at all. The ABC reports that DOT is changing its accounting practices in an effort to get projects moving. B King at Terminal Station comments on both the Saporta article and the fact that the statewide sales tax to fund transportation is dead. Finally, it what seems to be a never ending string of articles on ranking traffic, this week’s flavor ranks Atlanta a modest 22nd worst, which is actually pretty good.

Gwinnett Airport Privatization

A story that will probably be in the news a lot this year is the possibility of the privatization of Gwinnett County’s Briscoe Field. The Board of Commissioners is proceeding with studying the topic and reports on this can be found here, here, here and here.

Miscellaneous

Poverty is rising in Atlanta’s suburbs. A small business snapshot in the southeast. A look at a potential huge mixed-use project on Atlanta’s south side.

For the 12-month period ending in March, Atlanta saw 8,972 housing starts — ranking No. 5 out of the metro areas tracked by Metrostudy. Houston topped the list with 22,502 housing starts during the same period.

According to the study, Atlanta also had the fourth-largest supply of vacant, finished new homes with 8.8 months-worth.

Home Prices

Home prices continue their downward trend. Prices in Atlanta have declined 15.7% from May 2008 to now. They have also lost 1.7% since February. Atlanta continues to “perform” better than most of the other major markets except a select few.

The Case Shiller index shows Atlanta stands at about 105. That means that homes have only appreciated 5% since January 2000. This puts Altanta near the bottom of housing appreciation of the 20 major markets that Case Shiller tracks. Only Cleveland (96) and Detroit (71) have performed worse over the past nine years. That’s fairly poor – other southeast cities that the index tracks are Charlotte (119) and Miami (149) have fared significantly better.

Despite the pessimism of the Case Shiller numbers for Atlanta, Steve Palm of SmartNumbers told the AJC that home prices hit a bottom in February.

“Case-Shiller is a great survey, but you just can’t read too much into that,” said Steve Palm, president of SmartNumbers, a real estate research firm in Marietta. “February was still the bottom, and I say that because we have every [home loan] closing tracked, so I know February was the bottom.”

Palm said the average April sale price was up $10,000 over March, which is “a very good sign.”

Finally, the National Association of Realtors says that homes are now undervalued. Be careful, though, how much stock you put into NAR’s information. I’ve included a link to their information just to be complete – I’m very skeptical of anything that NAR puts out.

There is also concern that the home price trend is now pushing into “formerly stable markets”. (Stable markets is the WSJ’s term – not mine. Sounds like an oxymoron to me.) This was inevitable, though. Overall, economist Phil Dales expects housing prices to drop another 5-10% yet.

Home Sales

Despite Georgia having the lowest mortgage rates in the country, and rates overall are practically the lowest they have ever been, economist John Lonski says they aren’t low enough to bring equilbrium in the market.

However, home sales in April were up 2.9% over March.

“Most of the sales are taking place in lower price ranges and activity is beginning to pick up in the midprice ranges, but high-end home sales remain sluggish,” said NAR chief economist Lawrence Yun. “The Federal Reserve needs to help restore liquidity for the jumbo mortgage market by buying these loans under the TALF program.”

The number of first time buyers declined to 40 percent in April, a sign that NAR says indicates more repeat buyers are getting back into the market. And the number of people actively looking for a home to buy is up 14 percent from a year ago.

This article in the Wall Street Journal has reactions from a number of economists on the housing market, including a lot of very good data – too numerous to reprint here. There is a concern that we may have hit a false bottom in housing however, as foreclosures were up 40% from March in April in California. The always optimistic NAR says that home sales will bottom in the second quarter of this year.

Home Construction

Looking at bad news optimistically, home builder confidence rose in April from March from 12 to 14. While it did rise, anything under 50 indicates that market conditions are poor. Builder expectations over the next six months rose from 24 to 27.

Home construction in general has gone down significantly from even last year. Generally, permits and starts are down for April 2009 about 50%. The number of “Zombie Subdivisions” is a major concern too – with lot inventory so high that even in the usually stable coastal markets along the east coast, they’re at least a couple of years away from seeing shovels and hammers.

Again, this article in the WSJ has a ton of data on home construction and is very much worth the read. Real estate investor Sam Zell sees the recovery happening this summer because of demand returning. In support of that, at least one firm expects a big recovery in housing because new construction is off so much that demand is going to out pace supply very soon.

Bottom Line

I would strongly reccomend reading the linked articles and drawing your own conclusions on housing market. There is an incredible amount of information there – too much to even summarize here.

In my early January blog regarding this year’s residential real estate market, I commented that I didn’t think we’d likely see a bottom until next year. I still believe that, but there has been some encouraging news develop in the metro Atlanta area over the past two weeks.

The metro area’s biggest builders have started buying lots and are preparing to build again, according to an article in the Atlanta Business Chronicle.

For Centex, the purchase of the remaining 15 developed lots in Laurel Pond off Kimble Bridge Road in Alpharetta marks the first time in nearly a year the builder has purchased lots in metro Atlanta.

Centex (NYSE: CTX), which is down to single-digit new home inventory, bought the lots out of foreclosure from Colonial Bank in December, said Brent Landry, director of sales and marketing at Centex Homes in Atlanta, the 14th-largest home builder according to Atlanta Business Chronicle’s 2008-2009 Book of Lists.

Databank Inc., a real estate research firm, reports Centex paid about $1.3 million for the lots.

Centex is building homes on two of the Laurel Pond lots, Landry said, and will build more as those homes are sold.

D.R. Horton (NYSE: DHI), Atlanta’s third-largest home builder, bought lots in three new subdivisions in the past quarter, said Andy Oxley, chief operating manager for D.R. Horton’s Southeast region. Some of the lots were purchased out of foreclosure, others from developers at current market rates, he said.

Ryland Homes (NYSE: RYL) is scouting the market for deals, said Chuck Fuhr, Ryland’s Atlanta division president.

That’s a fairly significant move, although not huge, it signals that the builders are beginning to see something change in the market. It was a signal in the fourth quarter of 2006 from a builder who I worked with that things in the residential market were making a significant change for the worse. They were obviously on top of their game. Now, it appears that perhaps those builders who were seeing something wrong in 2006 are beginning to see something right in 2009. We certainly have a long way to go – single family building permit were down in the last quarter of 2008 by 75% over 2007 and 90% from 2005.

Now, closely related to this, because these builders are “large” builders, is a bill that is winding its way through congress. The builders would be able to take advantage of a huge tax break.

According to Zelman & Associates, a housing research firm, the nation’s 13 largest builders will reap $2.4 billion in tax refunds this year under the current law, which is more cash than Zelman expects them to generate from selling homes and land. Under the current tax law, many big builders won’t qualify for sizable refunds in the coming years, and they have been lobbying for the proposed change.

But some small builders say the measure would encourage big builders to continue to dump land and houses for artificially low prices to generate a loss for tax purposes. That, in turn, would drag values down even further, they argue.

Here is a good example of government influence in the market that makes it difficult to actually understand if market forces are at work or manipulative forces are at work. With the passage of the stimulus bill, this kind of conundrum will continue to rise – it’s going to be difficult to tell what is a real, sustained recovery and what is a recovery that may only be temporary because of either short term government spending or tax breaks.

Meanwhile, builders face another problem – foreclosed homes. Although this article focuses on builders, the guy trying to sell his home so he can move to a new job faces an even bigger hurdle. Much like the small builder who can’t take advantage of the tax break discussed above, the homeowner who is trying to sell his home also has a liquidity problem trying to sell his home against banks and builders.

As the normally hot spring selling season begins, two houses in the Inland Empire region of Southern California sum up the big problem facing many of the nation’s largest home builders.

One of the houses, a four bedroom built in 2006 that was seized by a lender in a foreclosure action, is listed for sale at $229,900. Meanwhile, in the same housing development, D.R. Horton Inc. is trying to sell a new house that looks nearly identical for $299,000, or 23% more.

Or consider Pulte Homes Inc.’s predicament in Henderson, Nev., near Las Vegas. The builder is trying to sell a new, four-bedroom house for $214,990, while a home owner is trying to dump a similar house, which Pulte built two years ago, for $149,999. That price is less than the owner’s mortgage under a “short sale” approved by the lender.

In many markets, “we are no longer competing with other builders. We are competing with foreclosures,” said Steve Ruffner, president of the Southern California division of KB Home.

All-in-all, the good news is that supply continues to diminish, and with so few new homes coming on to the market, we’re beginning to see the signs of a “bottom” in terms of home sales. It is likely that we will continue to see prices fall and that we’ll stay close to where we are now for at least the next year.

First, the theory behind the ever increasing need for housing is, of course, population growth. Estimates indicate that the U.S. population grew by 1 percent last year to 305,529,237 people. One percent would equate to adding a little over 3 million people to the U.S. last year. And, as is so often said, they have to live somewhere. The big questions? Where and in what?

2008 saw record decreases in home values, and they are expected to fall even further in 2009. Unfortunately, this is a near certainty that the prices will fall by as much or more than 2008 because further job losses are expected throughout the year. A report in the Wall Street Journal indicates that the value of homes dropped 18% nationwide from October 2007 to October 2008. For those of us in the Atlanta market, it showed a record decrease in monthly home value from September to October 2008.

Home prices will continue to fall until they get their historically correct price relative to income. This is highly dependent on the market being served, but in general outside the coastal regions, homes are still over priced by anywhere from 15-50%. Still. The coastal regions see an even bigger disparity – 50-100% or more and California is the proving ground of how home prices cannot possibly outpace income to the level that they did there.

Most of us are sick of hearing it, because it keeps being predicted to have happened (or soon to happen) and they keep getting it wrong – when are we going to hit bottom? Forecasters are now saying it will be the second half of 2009 or later. Personally, they should stop trying to predict “the bottom” because we’re not going to get there until employment turns around. And it’s a fool’s errand to attempt to predict when employment is going to stop seeing losses. This means that it likely will actually be at least 2010 before a bottom even has a chance of occurring. A recent study indicates that housing slumps like we’re in now last an average of 6 years – which means we’re only about half way through the current challenge.

Here’s an interesting quote regarding new home inventory.

“Home-building activity has declined so much that the backlog of unsold units is starting to be absorbed at a fairly rapid clip even in the face of such a slow sales environment,” said Morgan Stanley economist David Greenlaw, who added that inventories won’t drop to “manageable levels” for six to nine months.

In support of Mr. Greenlaw’s statement – and that is the stunning decline in new home building – is this chart from Dr. Housing Bubble.

Unfortunately, the month’s supply of new homes continues to climb – as a nation we are at a 12-month supply of homes. A normal supply of homes is usually in the 6 to 7 month range. Even as the number of new homes coming to market faces steep decline, the supply continues to increase because of the number of distressed homes coming on to the market. Distressed homes now make up about 50% of the homes on the market.

This article is particularly good at explaining where we’re at and where we’re going. The best part is the very last section, titled “The Daily Changes we will Face”.

Consider this blog an “executive summary” of the linked articles. If you have a keen interest in the residential real estate market, I would encourage you to read all of the linked stories in their entirety as they will give you a lot of helpful information on the 2009 residential real estate market.

My reaction – no kidding.

In fact, that’s the same words used by a client earlier this year. It was quite obvious that the problems were huge. In fact, they’re bigger than huge – they may be insurmountable for a long, long time. Take a look at this statistic from Metrostudy, a group that tracks Atlanta’s housing industry.

James said sales closings were down 44 percent for the third quarter, compared to the same period last year, and housing starts had plunged 67 percent. The metro area also has about 148,000 lots with infrastructure but no homes — a 117-month supply, he said.

A 117-month supply – or nearly 10 years. 148,000 lots without a home. Even in the best of times, that supply is at least 4 years. A healthy supply would be 18-24 months.

The rest of the article is a bit unnerving for the simple reason that the reactions to this problem are not realistic. Down payment assistance, as proposed by the Lt. Governor, won’t solve the problem of buyers not being able to get loans. The banks foreclosing and suing small builders is pointless. The idea of using the state employee’s retirement fund to buy residential projects only makes sense if they pay the right price, but using California as the example is bit silly given that economy is in worse shape that Georgia’s.

The answer is for the market to work through the supply. The prices will come down to the point where they will be bought – but it’s going to take time. Almost certainly years. But that’s the market. Speculation is the very definition of risk and a lot of people speculated on the metro Atlanta housing market. Some won and a lot lost. It’s unfortunate, but that’s the risk of chasing a speculative market.

The comments that follow the article are, for the most part, hilarious. People don’t realize the broad reach of the residential building market. It employees hundreds of thousands of people. It’s not just the developers and builders who are hurt in this market. It’s government employees, teachers, engineers, retailers, doctors – nearly every business gets an not insignificant percentage of their work as either a direct result of the housing industry or indirect result. It’s the furniture stores who sell new furniture to the new homeowner. It’s the road improvement projects that result of the sales tax from those furniture sales. It’s the new business that starts because the road as been improved and now people travel that road.

Metro-Atlanta is certainly facing some very tough times, but the market will eventually correct itself. We’ll be smarter, at least for a time, and we’ll make better decisions. That’s the lessons that successful businesses learn in times like these. The ones who don’t learn go out of business – and that’s the way it should be in a free market.