America has a housing inventory crisis. The number of available homes for sale is down 40% from this point last year, driven partly by homebuyers taking advantage of low interest rates to get more space during the pandemic.
This has been good news for homebuilders; the iShares U.S. home construction exchange-traded fund recently hit an all-time high. But new-home construction was weaker than expected in August, according to Thursday's housing-starts report from the Census Bureau. And the latest earnings report from homebuilder Lennar Corp. is a reminder that, while these companies will increase production in response to high demand and low inventory levels, their mission isn't to ensure an adequate housing supply for Americans. That's a task for government, not for-profit corporations.
Even before the pandemic and recession, there were structural issues holding back homebuilding. The easy growth of suburban single-family construction in the late 20th century in fast-growing metro areas in the South and West became more difficult as communities maxed out and traffic congestion made commuting from exurban neighborhoods more daunting. Labor and land costs rose over the past decade as buildable land grew scarce and construction workers left the industry after the collapse of the housing bubble. And community opposition to increased housing density made it more challenging and expensive to build in cities such as New York and San Francisco.
Homebuilder business models have changed since the housing bust as well, as Lennar's earnings call this week showed. The crisis was an existential event for the industry, and reckless participants either went out of business or changed their models to adapt and survive. The result was good for the sustainability of homebuilders, but not so great for Americans desperate for more supply.
The important thing to keep in mind is that while homebuilders are in the business of building homes, their ultimate goal is to perform well for their shareholders. Building more homes and rewarding shareholders are complementary goals, but shareholders come first.
With that in mind, Lennar highlighted on its call that it plans modest production growth of 10% in 2021, focusing on profit margins over volume. Lennar also paid down $400 million of debt in the latest quarter, choosing to deleverage instead of make a bigger bet on a stronger housing market. Lennar is also thinking about resuming its stock-buyback program. Cash used to pay down debt or buy back stock is cash that could have been used to buy land and build houses instead. But Lennar thinks returning capital to shareholders is the better choice.
From Lennar's perspective, this makes sense. Several times in the past decade — the 2008 financial crisis, the period in late 2018 when mortgage rates rose, and the early days of the pandemic — homebuilders have seen what can happen when housing demand unexpectedly retreats. Being financially extended and holding excess inventory during challenging market conditions threatens their profitability and solvency. Investors tend to punish such behavior. Better to manage growth and inventories responsibly, targeting high profit margins, to sustainably deliver for investors.
And in the very near term, it's a challenging environment in which to ramp up production. Because of the pause in construction in the spring, homebuilders have very few completed homes to sell. A surge in lumber prices has made it more expensive to build now than a year ago. Housing demand is robust and inventories are low now, but there's a lag between construction and completion. These businesses just suffered a panic attack six months ago, and who knows what the middle of 2021 will look like?
But the industry's cautious stance, however sensible and responsible, is a problem when the country has a dire housing shortage. Combined with the other structural challenges to building housing in America, from zoning restrictions and community opposition to labor and construction costs, there's no obvious mechanism right now to ensure an adequate supply of housing.
Government could play a more active role if we empowered it. States or the federal government could pass laws making it more difficult for local communities to block construction. We could build more public housing. We could give incentives or backstops to homebuilders to encourage them to expand production, assuring them of a soft landing if market conditions sour.
There may not be political will to do any of this. But it doesn't look like this housing inventory crisis will solve itself.
Conor Sen is a Bloomberg Opinion columnist.