I often hear people say something
like this: “household formation should be 1.5mm per year and new construction are
running 1mm per year, therefore we’re facing a housing shortfall”.
The obvious flaw with this statement
is that it ignores existing inventories and focuses completely on trends and “flow”.
Put another way, it assumes inventory is already in balance. The logical
questions are then: how about the
existing inventory? How do you know we didn’t
overbuilt so much during the last cycle that there are still still excess home supply?
Intuitively, I’d lay out household
formation and housing starts (“flow”) against total number of households and
housing units (“stock”) like this:
Assessing whether we’re overbuilding
is then a 3 step process: 1) estimate the
number of households, 2) estimate number of housing units that can be occupied, 3)
compare the two numbers; if there’s a housing unit shortfall then that’s the number
of units we need to build.
In the example above, I started with
2013 number of households. An estimate 750k of household formation for 2014E gets me
to 2014E households of ~115mm.
Next step is take the housing unit
numbers and figure out how many of those are actually available to live in? This
is where subjective judgment comes in. The
economy is not perfectly efficient, so at any given time, there’s a healthy
amount of vacant units in transition (it takes some time going from a rental
listing to actually renting out the unit, a unit could be sold but the buyer has not moved in yet…etc.) These are units that are not available, so I’ll take those out.
I also remove a normalized amount of second homes and “held for market – other”
units from the stock. For 2013, I
estimated ~12.2% of housing units are “normalized vacants”, and removed a corresponding 16mm unit
from stock. This resulted in an estimated 116.6mm housing units that are actually
available to be occupied.
Finally, compare 2014E households of
115.4mm vs 116.6 of available units at year end 2013 and it’s clear that we still
have excess inventory. I expect this excess inventory to decrease only slightly
at the end of 2014 because household formation barely exceeds net unit adds.
* As a note, the headline reported homeowner and rental
vacancies can be misleading as they both understate total vacancy. The way these
numbers are reported: if census can’t categorize if a vacant unit is for rent
or own, that unit will be left out of the data. i.e these numbers exclude units
that are held off market or seasonal vacant. For this reason I focus on total
vacancy for a big picture (construction activities). Then only drill down to
homeowner vs rental vacancy when I evaluate rent vs own type of decisions.
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