Slowed growth, higher prices, and other factors are contributing to the top ten trends in land development over the coming year
By GREG VOGEL
The land market marches to the beat of population growth and the larger economic cycle. Annual population growth has slowed by nearly 50 percent in the United States in the last 25 years, translating to just over two million in annual population growth today versus four million added annually back in 1992. Consensus is growing that a mild recession will occur in the next 24 months.
Even at a slower growth rate, the U.S. requires one million new housing units annually. The U.S. has added only 735,000 new housing units annually over the past decade. Pre-recession over-building has been absorbed resulting in wildly increased home values and rising rents, which have advanced far ahead of wages. The FHA increased loan limits for 2019 by 6.6 percent on average across US metros, reflecting the tightening residential real estate market. Economic growth provides jobs, and attractive job markets propel population growth and increased investments; retracting economies lose or have stagnant population and investment.
Currently, builders are challenged to construct affordable homes for the median income earned. This reach for delivering affordability has multiple implications on the land and housing markets. These factors are influencing the purchase of land and lots, resulting in the following 10 mega-trends in the land market:
- Homebuilders, along with Land & Lot Developers, are seeing increasing difficulty in underwriting projects to obtain the returns they need. The squeeze is on, resulting in fewer lots delivered, causing further upward pressure on lot pricing. Increasingly, builders are being required to get back into land development versus relying on third party developers.
- Builders still desire a lighter balance sheet and don’t want to be “long on land”, a lesson learned from the last recession. With wholesale buying of large tracts mostly out of the picture, smaller purchases, options, and granular delivery have been the trend.
- Lot Banking will continue to ebb and flow, with public builders citing margin deterioration as the main objection, with return enhancement coming second. Many private builders see the inverse of this, requiring a higher rate of return (to cover higher cost of capital) and aren’t as hyper focused on margin. In either case, lot banking will play a role over the next year for increasing equity efficiency and hedging against the risk of a housing slowdown.
- Land in “A” and “B” suburban areas are heavily in play for new lot development. Much of this lot development is being self- developed by builders versus middleman land developers. Luxury apartments, independent/ assisted living facilities, student housing, and more moderately priced garden-style apartments will continue to dominate infill land markets. Homebuilders have been virtually shut out of true infill due to the highest and best users being able to pay more for land in these areas.
- The last of the “C“ & “D” finished lots that were leftover from the great recession are now being swept up. These remaining lots are the last bastions of ability to deliver homes under $250,000. With these below replacement cost, lots are being quickly absorbed and activity on land in the “C” markets has commenced. The challenge in many edge areas is offsite, large-scale infrastructure required to lift-off new development. We will see an increase in usage of “district” financing to enable this infrastructure to be built.
- Horizontal development costs have risen substantially, busting budgets, impacting returns, and creating a much more conservative projection. Cost estimates have become negotiation instruments for virtually every transaction requiring lot development. Builders have been willing to pay a premium for a guaranteed finished cost, eliminating the lot portion of cost risk.
- City engineering and planning departments have become overworked, resulting in increased processing times. Cities that begged for growth and building five years ago are now increasing regulatory and design requirements.
- City impact fees are now increasing from the near freeze during the recession.
- Financing has tightened with the headlines. Wall Street, private equity, and, therefore, the builders’ CEOs seem to be more influenced by headlines in broad strokes rather than state-by-state and by submarket. 10. Future growth will continue to be concentrated in the Southeast, Texas, and the Southwest. Seventy percent of the population growth over the next several decades will be in these regions.
The growth, strength, and durability of the US economy will continue to fuel a healthy land market, but the looming signs of a slowdown will keep builders, developers, and investment capital cautious in the coming few years. The caution being exercised will lead to a less violent down cycle and, most agree, whatever recession is looming will be much kinder to land and housing this go around.
Greg Vogel is the Founder & CEO of Land Advisors Organization. He may be reached at landadvisors.com.