The return of the first-time buyer

An interesting article on how first time buyer affect the real estate market in US. I feel this applies to India RE also. How many of us are new buyers. I can only hope there are many who dont own even a single home and return of these would help the market.

The key player in any recovery scenario is the first time buyer. The housing market operates with a pronounced laddering or ripple effect. When entry-level buyers flood the market, they not only stimulate production of new homes, they purchase existing homes. Those purchases, in turn, allow the sellers to move up to bigger houses.

But when the first-timers are absent, the entire buying chain gets frozen.

Today, newbies are coming back. Why? For the first time in years, entry-level homes are affordable. Builders have slashed prices, and what they’re building tends to be far smaller than the McMansions of the boom, selling for far lower prices. KB Home’s average selling price dropped to $248,0000 in its February quarter, versus $267,000 a year earlier. In 2006, KB’s basic model in Victorville, Cal., a former boomtown east of Los Angeles, took up as much as 3,800 square feet and sold for $328,000. Today, its stripped down offering goes for $220,000, at less than half the size.

So the first time in a decade renters can carry the mortgage payments and taxes on a new house for what they’re paying a landlord. Call it the New Affordability.

Here’s how the numbers play out: Single-family housing starts are now running at fewer than 500,000 a year. The normal demand for housing, based on immigration and household formation, is around one million units.

We won’t get back to that figure for a while because so many people rushed to buy homes during the boom.

But with first timers returning, sales should rise to almost 700,000 units by the end of next year, according to Bernard Markstein, senior economist for the National Association of Home Builders. That means sales will soon exceed new production by as much as 250,000 units a year.

That margin forms the foundation of the housing revival that comes in four steps.

Step 1:
First, the return of first-time buyers will shrink the overhang of new houses for sale.

Step 2:
Second, because so few new homes are being built, first-timers will start buying existing homes from owners who want to move up but have been trapped by the dearth of buyers. Their improved fortunes, though, come with a big caveat: The prices of new homes are now lower than comparably-sized existing homes. It’s as if used cars are selling for more than new ones. That can’t last. So move-up buyers are going to have to accept less than they had hoped to get for their current homes.

They’ll get a big break as they trade up, however. Unless they bought at the height of the boom, they’ll still sell at a profit. They can then use that equity to buy bigger homes at bargain prices. During the bubble, homebuilders started pushing up home sizes to 3,500 square feet or more. It’s those behemoths that are selling for the steepest discounts today.

Step 3:
Next, housing starts should start rising, probably next year. The increase, however, will be slow and gradual. For the next two years at least, homebuilders will compete ferociously with existing home sellers for customers.

Step 4:
Eventually, the glut of existing homes will disappear as well. The excess of new-home buyers over new homes being built makes that inevitable. But the oversupply is so enormous that the healing process could take as much as three more years. Only then will prices in former bubble markets start rising again.

What could go wrong?
One event has the potential to slow or even derail the recovery: A sharp rise in interest rates. Right now, the first-timers are gorging on 6% loans guaranteed by the FHA. But rates may not stay there.

If they rise to 8% or higher because inflation rebounds, it would take a far bigger drop in prices to make new and existing homes affordable.

The New Affordability is now in place. But if rates rise, we’ll have to establish a New New Affordability – at even lower prices.

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