The article below was written by Dr. Robert Dietz, National Home Builders Association Chief Economist.
The residential construction industry is in a holding pattern until the Federal Reserve moves forward with interest rate reductions. However, this monetary policy move now appears to be firmly in view, as economic data continue to soften. Inflation readings are moderating after an unexpected uptick during the first half of the year. And the bond market is investing as if the first rate reduction will arrive at the Fed’s September meeting, with a series of further reductions through the end of 2025.
With macro data slowing but reasonably solid, inflation expectations anchored, and short-term rates likely to fall, the 10-year Treasury rate has fallen back to around 3.8%. This is down almost 100 basis points from late April. Mortgage rates have moved lower as well, averaging approximately 6.5% last week, per Freddie Mac — the lowest reading in a year. Consumer inflation is also slowing, with a 2.9% year-over-year estimate for the Consumer Price Index in July. However, shelter inflation continues to be the last leg of the inflation fights, with housing costs up 5.1% year-over-year. Shelter inflation has been responsible for 70% of the overall rise in consumer costs over the last 12 months. And like other sectors, these costs are up because of underlying business cost growth. For example, residential construction material costs rose 2% year over year in July — the sixth straight month with that rate of growth. Meanwhile, residential construction wages were up 9% year over year.
Despite the outlook for lower interest rates, current housing data have been weak because of the lagging effects of prior elevated interest rates and ongoing price and cost growth. Single-family housing starts decreased 14.1% in July to an 851,000 seasonally adjusted annual rate. Nonetheless, on a year-to-date basis, single-family starts are up 11.4% for the first half of 2024. The July drop for single-family home building mirrors recent softening for the NAHB/Wells Fargo Housing Market Index (HMI), which dipped another two points in August to a weak reading of 39. The HMI should improve as the Fed provides more details about the eventual reduction of short-term interest rates.
In the meantime, elevated short-term interest rates are holding back the acquisition, development and construction (AD&C) loan market for private builders. Average effective interest rates increased for three of the four categories of NAHB's second quarter AD&C financing survey. For the quarter, the average effective interest rate increased from 11.09% to 12.22% on loans for land acquisition, from 13.35% to 14.32% on loans for speculative single-family construction, and from 12.95% to 13.08% on loans for pre-sold single-family construction.
Multifamily construction of apartment buildings and condos increased 14.5% to an annualized 387,000 pace in July. Because the monthly multifamily data are volatile, the year-to-date data are more instructive. Multifamily 5-plus unit construction is down 35% thus far in 2024 due to tight financing and an ongoing rise of completed apartments. This weakness is consistent with NAHB's Multifamily Production Index, which had a second quarter reading of just 44, marking a year-over-year decrease of 12 points. Multifamily developers are less optimistic than they were at this time last year, given high interest rates and tight financing conditions.
