When it comes to assigning blame for the great housing bubble of the last decade, the debate is far from settled and, like the long-running argument about the antecedents of the Great Depression, it may never be.  One summary most can agree on, though, is this: too many people spent too much money on too many houses.  The recession that followed wasn’t created by the bubble’s bursting, but the bubble certainly sped up the awareness that the U.S. economy faced – and continues to face – significant headwinds to growth.

Two main factors make housing appear to be an economic headwind still.  One is personal mortgage debt levels: one in five mortgage holders is still “underwater,” meaning that the values of their homes are lower than the balances of their mortgages.  The other is the level of unemployment – if you’re unemployed or underemployed, you simply can’t afford a first-time or new home.  While we’re cognizant of these factors, we see three potentially powerful catalysts which could drive demand for housing higher in the years ahead.

First, rental rates in many markets now exceed the cost of buying a comparable home, in today’s low interest rate environment.  Clearly a prospective home buyer’s credit score has to be strong enough to borrow – no small challenge – but we see this fundamental pricing discrepancy as encouraging renters to become buyers in the near future.

Secondly, the prospect for immigration policy reform could provide a major source of demand.  Estimates vary, but it’s possible that as many as 10 to 15 million people may be living in the U.S. illegally.  Without wading into the debate itself, any legal reform that makes staying and owning property in the  U.S. easier for the people in that situation could be a boon for housing demand.

Thirdly, a factor related to but distinct from immigration is the relationship between population and housing starts.  The chart below shows the annual rate of housing starts as a percentage of the current U.S. population.  Note that while the trend was a gradually rising percentage during the 1990s, the easy monetary policy after the 2001 recession significantly accelerated the growth rate, facilitating the bubble mentioned above.

For approximately the last six years though, the supply of new homes has been well below trend, to a greater extent – and for a longer duration – than the excess during the bubble years.   Despite the up-turn since 2011, we anticipate that the U.S. is dealing with a housing shortage, not a surplus.   In fact, if we went back to the 1991 recession low (0.33%), starts today would still be approximately 20% higher than where they are now.  And to get back to the 1991 to 2000 average, we should be seeing total housing starts of closer to 1.6 million, or 60% higher than the current level.

U.S. Housing Starts as a Percent of Population, 1991 – 2012


Sources: U.S. Census Bureau, National Association of Homebuilders

As home prices improve, more and more mortgage holders will be able to refinance or purchase new homes.  And as that happens, we expect more construction to be required, creating a virtuous housing cycle.  It won’t occur over night, but we believe the U.S. housing market could comfortably support an annual rate of housing starts at 1.3 million for the next 3-5 years.  This type of identifiable long-term growth trend – with multiple drivers – creates investment opportunities.  At Peloton, we are adding portfolio exposure to housing through several specific companies poised to benefit from secular growth in the industry.