Why Homebuilders Are to Blame for Construction Decline
Southern California builders’ fixation on serving the luxury market — heavy with Chinese buyers — is now a drag on the industry.
The year for local homebuilders started in the shadow of 2018 when construction slowed and unsold inventory grew to a near-seven-year high.
Industry woes can’t be tied to common complaints such as regulatory hurdles or grumpy, anti-growth neighbors. Builders have largely themselves to blame for a slump in sales as they misread demand at the market’s high end.
MetroStudy figures show homebuilders in the four counties covered by the Southern California News Group finished 2018 with 10 percent fewer new homes under construction—that’s 10,140 units, down 1,187 in a year. It’s the first year-over-year decline in the homebuilding pace since the 2013’s first quarter—just as the post-recession real estate recovery was starting to gain traction.
Where’s the Decline?
Declines in homes under construction were found across the region but were denser in Orange County where homebuilding was off 22 percent. Homes being built in the Inland Empire fell 8 percent while Los Angeles County building dropped 5 percent.
The sales slump can be tied to a host of challenges—pricier mortgages, political and economic uncertainty and new tax policies making ownership more expensive. In certain markets, such as Orange County, fewer Chinese buyers are also hurting builders.
At Brandywine Homes, a small builder of urban “in-fill” projects in Los Angeles and Orange counties, chairman Jim Barisic anticipates “the need to offer incentives and negotiate sales prices going forward. The slack from Chinese buyer pullback has impacted all price ranges in our market areas.”
To be fair, it’s not just builders. Southern California’s overall home sales in the fourth quarter ran 13 percent below the end of 2017, CoreLogic reported.
But a key theme for builders is they overestimated the appetite for higher-priced homes—popular with many foreign buyers.
“In Southern California and primarily, Orange County and even more significantly Irvine, the foreign buyer and principally, the Chinese foreign buyer, first and second generations, made up 75 percent to 80 percent of the marketplace,” Larry Webb, CEO of New Home Co., recently told investors. “And certainly, in the second half of last year, that buyer group was reduced significantly.”
Construction outpaced the sales pace and that imbalance boosted inventory of finished but unsold homes to 3,712 in the fourth quarter, up 609 in a year or 20 percent. The last time Southern California builders had more standing inventory was 2012’s first quarter.
Supply increases regionally were led by the Inland Empire (up 28 percent), then Orange County (up 26 percent) and Los Angeles County (up 2 percent).
And builders aren’t just competing with new-home sellers. The existing-home market has become flooded with options for house hunters, too. In the four-county region, the year started with 34,027 existing homes listed for sale — that’s up 10,313 (or 43 percent) from early 2018, according to ReportsOnHousing.
As a result, builders are cutting prices.
According to real estate watcher Zillow, 25.9 percent of new homes on the market in Los Angeles and Orange counties in the fourth quarter had price cuts — up from 19.5 percent when the year started. In Riverside and San Bernardino counties, 28 percent of new homes were discounted — up only slightly from 2018’s first quarter.
Inland Empire Deals
Take Pardee Homes, which is offering Inland Empire buyers the choice of $10,000 in closing costs or more favorable mortgage rates or appliance upgrades or even a year’s worth of homeowner association dues.
Last year’s discounting at New Home Co. translated to a $10 million write-off on the remaining value of home sites in two luxury projects in Orange County.
“While we are optimistic that this softness will eventually prove to be temporary, we are positioning our company to be prepared for the possibility that it is not,” Webb said.
MetroStudy’s John Mulville says the current scenario is “a big change in paradigms” with builders quickly shifting from the higher-end market to selling more “affordable” products.
“A fine-tuning period” he called it.
Builders in the MetroStudy survey have been guardedly optimistic, Mulville said. Early 2019 trends — busy model homes along with discounts helping to thin inventories — suggest 2018’s late-year slump may have been a momentary pause in what’s been an elongated upswing for Southern California homebuilding.
“But we are having a reality check, for sure,” Mulville says.