With housing, Buffett chooses a great location
Newly constructed houses built by Lennar Corp are pictured in Leucadia, California March 18, 2015. Acquire Licensing Rights
WASHINGTON, Aug 30 (Reuters Breakingviews) – Mortgages are pricey, but Warren Buffett seems to think that’s a good thing for homebuilders. The billionaire’s Berkshire Hathaway (BRKa.N) conglomerate recently disclosed investments in companies that erect single-family houses even as higher interest rates crimped demand. The economics of the average American household suggests buyers could soon hit the market, and these constructors will be the only game in town.
Berkshire earlier this month said it bought stakes in D.R. Horton (DHI.N), Lennar (LEN.N) and NVR (NVR.N), just as mortgage rates hit the highest level in nearly 23 years. At first blush, the picks look not only contrarian, but risky. Affordability remains a high barrier. But D.R. Horton, for one, throws in discounts that help mitigate borrowing costs, and sells its average home at a closing price of $378,600. That’s 3% less than last year, and 7% less than the average used-home price today. With a 10% down payment and a 30-year mortgage at 7.3%, a buyer would have to fork over an extra $176 a month if they didn’t choose D.R. Horton.
Incomes are climbing, too. Average hourly earnings have increased 4.4% since last July, according to the U.S. Bureau of Labor Statistics, and raises look set to keep outpacing inflation. The average home price-to-income is around 7.75, suggesting an annual pre-tax salary of $49,000 is required to buy a D.R. Horton house. Yet employers are under pressure to give bigger raises amid labor shortages and contract negotiations. If wages rise 6% this year, D.R. Horton’s average home price falls another 3%, and income is taxed at 25%, buyers would take home roughly $223 more per month, despite higher mortgage rates.
Potential homebuyers may get more confident. Meanwhile, existing homeowners are as reticent as ever to sell. Just 14 of every 1,000 U.S. homes changed hands in the first half of this year – the smallest share in at least a decade – as owners balk at new mortgages, according to real estate outfit Redfin. And apartments don’t pose much of a threat, either. Median rents for two-bedroom apartments in metropolitan areas like New York and Los Angeles exceed the monthly payment for a suburban D.R. Horton home.
Plus, builder incentives, including temporary interest rate cuts, give them an advantage over individual home sellers who can’t offer the same perks as easily. Construction companies, then, are the only ones that can offer prospective movers a deal. For Buffett and Berkshire, that’s a healthy foundation for new investment.
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Berkshire Hathaway disclosed new investments in homebuilders D.R. Horton, NVR and Lennar on Aug. 14. The conglomerate, run by billionaire investor Warren Buffett, purchased $726 million, $71 million and $17 million of DR Horton, NVR and Lennar shares, respectively, throughout the second quarter, according to a Securities and Exchange Commission filing.
The average interest rate on a 30-year, fixed-rate U.S. mortgage rose to 7.31% in the week that ended Aug. 18, the Mortgage Bankers Association said on Aug. 23. That marks the highest rate on the country’s most popular home loan since December 2000, and follows a weeks-long uptick in yields on U.S. government bonds.
Sales of newly built U.S. homes rose 4.4% in July to a seasonally adjusted annual rate of 714,000 units, the Census Bureau said on Aug. 23. Economists surveyed by Reuters expected new home sales to climb to an annualized pace of 705,000 units.
Editing by Lauren Silva Laughlin and Sharon Lam
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