For four years home builders had a quiet advantage. Ordinary homeowners refused to budge on price. Rather than take a lower offer, they'd pull the house off the market. So anyone who had to move went to a builder, and the builder threw in a cheaper mortgage. Carol Ryan's Heard on the Street column in Monday's Journal says that advantage is ending.
The builders' own numbers say so. In the three months through August, Lennar's (LEN) average sale price in its west region came in $44,000 below a year earlier. That's a 7% drop. Its central region fell 5%. KB Home (KBH) now expects a fourth-quarter average price near $480,000, not the $500,000 it had guided to. Southern California sellers are cutting, and KB has to follow or lose the sale.
The buydown gets more expensive
Builders kept selling through the rate shock with one tool. They paid to shave the buyer's mortgage rate, usually 1 to 2 points under a regular lender's. That works until it eats the margin. Lennar's incentives, rate buydowns among them, now equal 12% of a home's value. Its gross margin for the three months through August was 15.8%, last seen right after the 2008-09 crisis. And the tool got pricier. Take a $100 million forward commitment, a bulk deal to buy mortgages below market. Late last year, cutting its rate from 6% to 5% cost a builder $3.8 million, per Edward Pinto of the AEI Housing Center. Now the same one-point cut costs $5.4 million.
Meanwhile the other side woke up. Redfin counted 21% of existing-home sellers cutting the asking price in the four weeks through Sept. 20. In August, 45% of sellers threw in extras, like closing costs or repair money. In Atlanta and Nashville it's 7 in 10, and those are builder towns. September inventory was only 5% below September 2019, per Realtor.com. New-home sales per community normally dip 4% from August to September. This year they dropped 18%, says Rick Palacios of John Burns Research and Consulting. Berkshire Hathaway (BRK.B) is buying anyway. It bought Taylor Morrison for $6.8 billion in May and pushed its Lennar stake past 10% in September. Ryan calls that a bet the neighborhood improves over years. Builders' last wish, she writes, is “a price war with regular home sellers.”
Our read
Housing M6, and for once the leverage sits with the buyer. This column is a price sheet. A builder's buydown is real money, 1 to 2 points on the rate, and the builder now pays more for it than last year. A resale seller's concession is real money too, and 45% of them offer one. This fall, ask both sides for a number and compare. For investors, we hold Berkshire at weight in 22 books; nothing added. Lennar sits in one book at 3%, nothing added there either. KB Home isn't held. Berkshire buying builders at a 15.8% margin is a long bet on a shortage that's still real.
Here's the connection to your own plan. If a purchase is on your calendar, this week's check is the buydown math. Ask the builder what the buydown costs in dollars, then ask for the same dollars off the price instead. A lower price cuts your loan balance, your interest for the life of the loan, and often your property tax. A buydown's value depends on how long you keep the mortgage, and on whether rates fall and you refinance out of it. Run both on your own payment, for the years you plan to stay. You price the umbrella before the clouds roll in, and right now the sellers are holding it out.