Home Prices Could Strengthen as Builder Confidence Climbs

One of the victims of the economic contraction in the first quarter of 2014 was home builder confidence. That confidence may be getting a second wind, and that may be enough to breathe some new life into home prices.

The National Association of Home Builders/Wells Fargo Housing Market Index (HMI) rose for the third consecutive month in August. This is a welcome recovery after the HMI declined overall for the first five months of the year. If home builders are reading the trend correctly, it should bring good news for home owners in the form of higher prices. It could also be a sign for prospective buyers to start getting more aggressive.

Home Prices - A Resumption of the Narrative?

Naturally, home builder confidence took a beating once the housing bubble burst. The HMI is measured in such a way that when it exceeds a level of 50, it means that more home builders are confident than are pessimistic. When the index drops below 50, it means the opposite, and after reaching a high of 72 in 2005, it plummeted all the way to a low of 8 in January of 2009. This represents a virtual disappearance of any optimism among home builders - in nearly 30 years worth of HMI history, a five-month stretch in late 2008 and early 2009 was the only time that the index fell into the single digits.

A long, painstakingly slow recovery in builder confidence began in early 2009, and the HMI finally passed back above the 50 mark in June of last year, and continued climbing to reach 57 as of year-end. It looked as though this momentum would simply continue to build, but then there was a hiccup in the narrative. Builder confidence slipped slightly in January, and then the HMI dropped by 10 points in February. By May of this year, it was back down to 45, or squarely into pessimistic territory.

So what happened? The first thing to spook home builders was probably last year's rise in mortgage rates. Then, an economic contraction in the first quarter of this year suggested that a worst-of-both-worlds scenario was developing for the housing market: higher rates with a weaker economy.

Fortunately, that scenario has since been reversed. Mortgage rates have actually eased downward for much of the year, while economic growth firmly reestablished itself in the second quarter. This rosier scenario is reflected by the return to optimism among builders: since hitting bottom in May, the HMI has now climbed for three straight months, rising a total of 12 points to 55. This optimism suggests that the recovery in home prices is back on track to continue.

Strategic Responses

There are many different indicators of home prices, but naturally builders have their fingers on the pulse of the market more than closely than most. The optimism among builders, and its implication of continued recovery in housing demand and prices, calls for different responses depending on your situation:

  • Buyers. If you are in a position to buy a home, you may want to step up to the plate a little more aggressively, both in terms of the pace of your home search and also how strong a price offer you make when it comes time to negotiate. After all, not only do prices look set to rise, but if economic strength continues, mortgage rates could be headed higher as well.
  • Sellers. On the other hand, if you are selling, time is on your side. If home builders are right about demand continuing to strengthen, you should feel confident in setting what you feel is a full and fair price for your house, and not feel pressured to take a low-ball offer early in the sales process.
  • Holders. People planning on holding on to their existing homes benefit from higher home prices in the form of increased home equity against which they can borrow, and the relief of under-water mortgages which may allow refinancing. The only tricky part for these home owners is to monitor both home prices and mortgage rates, to make sure the progress in prices is not being counterbalanced by a rise in rates.

Regional Differences

The above should give you a general indication of how the recovery in home builder confidence may affect your home and mortgage plans. However, keep in mind that real estate conditions are highly localized, and there are sharp differences in how the recovery in confidence is playing out in different regions of the country.

The bounce back in the HMI has been most pronounced in the Midwest, where the regional version of the index has jumped 20 points since May, to reach a level of 65. The West has also seen a healthy recovery since May, recovering by 13 points to reach 57.

On the other hand, the recovery in the HMI has been more muted in the South and the Northeast. In the South, the regional HMI has recovered just 4 points since May, to barely scrape into optimistic territory at 51. Meanwhile, in the Northeast, despite gaining 6 points since May, the regional HMI is still reading at a predominantly pessimistic level of 41.

So, while improving conditions favor home owners in the Midwest and West, they may want to be more cautious in the South and especially the Northeast. It remains to be seen whether the optimism of other regions will fully catch on in those areas.

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