The Housing Market Recovery Boosts New Car Sales

Playing Now in Select Regions, Coming Soon to Many More


Housing Market Recovery

After five long years of bad news, things are finally looking up for the housing market. Prices are rising, builders are building, and buyers are returning, thanks to revived mortgage lending and record low interest rates. This activity is a good thing for the economy in general, which will help auto sales, but there are also direct benefits from a housing market revival for the auto industry.

For example, the high correlation between housing starts and pickup truck sales means that increased building will result in a surge in truck purchases. Additionally, rising home prices make consumers feel wealthier, which translates into greater consumer confidence to make large purchases such as a new car. Eventually, consumers will accrue more equity in their homes due to higher home prices and the greater equity will help fuel spending, including on new cars.

Yet another set of benefits to auto sales comes from renewed mortgage lending. Although mortgage lending standards remain tight, purchase loans have grown somewhat in recent months and refinance activity has soared. A homeowner who refinances at lower interest rates can suddenly free up disposable income that can then be used toward car payments.

All of these trends are emerging across the country. The National Association of Home Builders (NAHB) said that the number of "improving" housing markets jumped from 125 metropolitan areas in November to 201 metropolitan areas in December. This means that over half of all metropolitan areas tracked by NAHB are now considered to be improving (i.e., with six consecutive months of improvement from their respective low points in each of three independent measures: employment, home prices, and housing construction). Forty-four states now have at least one city on the list.

Still, the localized nature of supply and demand for housing means that the housing market's recovery varies from region to region. As a result, the impact on auto sales will vary regionally as well. In the near term, the South and the West are likely to see the most gains in new car and truck sales from housing, with particular strength in metropolitan areas Phoenix, Atlanta, and San Francisco. In the less promising Midwest, Detroit is a bright spot. Meanwhile, the otherwise lackluster Northeast could see some growth in demand for trucks as a result of the rebuilding from Hurricane Sandy.

Where America's Truckin'

Housing starts and full-size pickup truck sales are highly correlated — when construction gets going, workers need trucks and many of them have been holding off buying new ones these past few years. With the truck fleet's average age at a record 10.4 years (and the useful life of a truck estimated at 15.5 years), there is a whole crop of prospective buyers waiting to get back into the market. Which regions are likely to see the most increased truck sales in the near term? Those where housing starts are growing the fastest. In all regions, housing starts remain 60 to 70 percent below levels seen at the peak of the housing market during 2005 to 2006. The Northeast has led the other regions with relatively more starts to date, but starts there have remained fairly flat this year compared to peak levels. The South, in contrast, has seen consistent month over month growth in starts this year — 27 percent on average — and, as a result, has improved its starts compared to peak levels by almost 12 percent. The most momentum currently can be seen in the West. After some weakness early this year, growth in housing starts surged during the past seven months leading to a roughly 11 percent improvement in recovery in that region as well. Meanwhile, the Midwest has been plagued by volatility in starts this year, although recent data have shown renewed growth in starts compared to peak levels. These trends indicate that pickup truck sales should see the largest boosts in the West and the South whereas the impact will be less pronounced in the Midwest until the housing recovery in that region shows more consistency. Recent lackluster growth of housing starts in the Northeast would seem to suggest a limited impact of housing on truck sales there as well, but rebuilding after Hurricane Sandy could motivate stronger truck sales in the coming months.

Housing Market Recovery

The Warm-Fuzzy Side of Home Equity

Average nationwide home prices peaked in April 2006, according to the S&P/Case-Shiller home price index, which tracks monthly changes in the value of residential real estate in 20 metropolitan regions across the U.S. While homes continued to gain value in some regions until as late as May 2007, prices in all regions fell sharply during the recession — 34 percent on average with price drops in individual markets ranging from 9 percent to 62 percent. Home prices generally languished near these new lows until a steady stream of monthly increases this past year improved prices by nearly 10 percent on average with changes in individual markets again varying widely.

Rising home prices make consumers feel wealthier. Consumers who feel wealthier are more likely to buy new cars. Which regions stand to benefit most in the coming months from this increased wealth effect? Those where home prices are rising the fastest. During the recent price recovery, Phoenix, Atlanta, Detroit, and San Francisco have seen the strongest gains (over 1 percent month-over-month growth on average). Most of the other 20 metropolitan areas tracked have seen steady but moderate gains (between 0.5 percent and 1 percent), but some areas are still struggling. Chicago, in particular, has seen price declines in recent months, despite a couple months of strong increases earlier this year. Washington D.C., Tampa, and New York City have all seen little to no (or negative) price changes lately as well. Other areas with weaker price gains include those whose prices fell the least from the peak, such as Denver, Dallas, Charlotte, and Boston. These areas have a mixed outlook; they have not been hit as hard by negative wealth effects from falling home values, but also may not see as much growth in wealth effects in the coming months without something more to spark momentum.

Housing Market Recovery

Rising home prices also eventually mean more equity for consumers that they can use for spending, including on cars. In the medium to long term, when equity grows, car sales should increase in regions where prices recover the most relative to pre-peak levels. Housing analysts disagree as to whether prices will continue to rise. Some analysts argue that current gains are just another false bottom, reminiscent of the price increases in the second half of 2009. They cite the so-called "shadow inventory," i.e. expected foreclosures that have yet to work their way through the system and that will inflate supply and weaken prices when they do hit the market. Other analysts believe that this inventory is already working its way through the system and will do so without disrupting the current upward trend in prices. This latter view is somewhat more prevalent and the recent decline in the supply of homes for sales offers a buffer against any incoming inventory. Assuming that prices do continue to rise, regions in which prices are closest to pre-peak levels — including Dallas, Denver, Charlotte, and Boston — are most likely to be the first to see increases in new car sales due to substantial home equity. Areas with the most lost ground, especially where the home price recovery has been slower, are likely to be years away from home equity boosting car sales (Las Vegas, Phoenix, Miami, and Tampa).

Refinancing Shares the Wealth

The rise in refinancing activity is yet another component of the housing market recovery that has the potential to contribute to car sales. Refinancing can put more money in consumers' pockets by reducing monthly payments. With interest rates at historic lows, consumers have seen record high savings from refinancing this past year. For example, lender Freddie Mac reported that in the third quarter of 2012, the average interest rate reduction was about 1.7 percentage points, or a savings of about 31 percent in interest rate, the largest percent reduction recorded in the 27 years of analysis. Freddie Mac estimated that this savings equated to $3,500 in the following twelve months for a $200,000 loan. For consumers whose new loan featured the same or lower balance and the same or longer payment term, these savings would lower their monthly payments by about $210 per month over the course of the loan, which could subsidize a new car note. While regional data is not available at this time, regions with the most refinancing activity and the highest interest savings are the best situated for gains in auto sales from this element of the housing recovery.

Lacey Plache is the Chief Economist for Edmunds.com. Follow @AutoEconomist on Twitter.

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