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Residential construction continues to climb, good for homebuilders

Brent Nyitray, Sr Real Estate Analyst

Construction spending is a major driver of job growth in the U.S. economy

The Construction Put in Place Survey is released monthly by the Census Bureau that measures the total dollar value of construction work done in the U.S. It covers both the public and private sector and includes new structures as well as improvements to existing structures. The data includes the cost of labor, materials, architectural work, engineering work, overhead, interest, taxes and contractor profits.

Construction activity has a large multiplier effect – in other words, a new construction job spawns additional job growth. The multiplier effect for construction jobs has been estimated to be around two. Construction has the benefit of employing a lot of people, and part of the reason why the recovery from the Great Recession has been so tepid has been the lack of construction spending.

Construction spending falls 1.7% month-over-month in March

Construction spending rose to a seasonally adjusted annual rate of $874.9 billion in May from a revised $870.4 billion in April. Spending is up 5.4% year-over-year. Private construction was flat month-over month, while public construction spending rose 1.8%. Public construction has been falling over the past year and is down 4.7%. Year-over-year, private construction is up 10.6%. Residential construction rose 1.2% month-over-month and is up 22.7% year-over-year. Non-residential construction is down 2.9% year-over-year.

Construction spending made a post-recession peak of $892 billion in December last year. That level equates to mid 2003 spending levels. Construction spending peaked at $1.2 trillion in March of 2006. It bottomed in Feb 2011 at $746 billion.

The report does not break out single-family construction versus multi-family construction, so it is hard to tell how this plays out for home builders. The housing starts released in March showed a focus on multi-family, while the April report showed a big drop. Home builders compete with rentals for new household formation, and as the supply of rental properties increases, rents should fall relative to house prices. This will negatively affect new home pricing at the margin. Home builders, like Standard Pacific (SPF), Lennar (LEN), KB Homes (KBH), Toll Brothers (TOL), and NVR (NVR), will feel the impact of an increasing supply of rental properties. Offsetting this effect will be the current low inventory level.

Right now, the difference between renting and buying is wide, but has dropped as rates have increased. When one considers the difference between median house prices and median rents, purchasing is cheaper. Historically low interest rates and low prices for starter homes are making home ownership very affordable. As the job market improves for younger adults, those that are currently renting will contemplate home ownership. The Obama Administration has been pushing banks to lend more and to use FHA loans for first-time home buyers. FHA loans require only 3.5% down, so they are perfect for the first time home buyer. This move from renting to purchasing will help home builders longer-term.

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