- Home builders have been offering mortgage rate buydowns to attract buyers, but as rates drop, they may turn to other strategies, such as price cuts.
- Incentives, including buydowns, are costly and eating into home builder profits, while sales of previously owned homes remain sluggish.
- New-home prices are falling, with builders focusing on smaller floor plans and pricing strategies to maintain volume in a challenging market.
According to WSJ, home builders have relied heavily on mortgage rate buydowns to maintain sales amid high home prices and fluctuating mortgage rates. These incentives have allowed buyers to afford homes that would otherwise be out of reach.
However, with mortgage rates beginning to fall slightly, home builders may have to shift strategies to remain competitive.
Rate Buydown Impact
Home builders have been able to navigate high mortgage rates over the past two years by offering generous buydown programs, which temporarily reduce buyers’ interest rates.
This strategy has helped boost sales of new homes, which rose 10% YoY in August, even as sales of previously owned homes fell significantly.
For buyers like Daniel Garcia Parra, these offers made homeownership possible, as builders covered the cost difference, allowing for a lower mortgage rate than the market offered.
Builder Challenges
While mortgage buydowns have been effective in keeping new home sales steady, they are costly. Incentives like these can reduce profits by tens of thousands of dollars per home, making it harder for builders to sustain margins.
Companies such as Lennar (LEN) and KB Home (KBH) have already reported lower-than-expected new home orders and flat gross margins, signaling potential hurdles ahead for the industry.
New Strategies
With mortgage rates down nearly a percentage point from earlier highs, builders may have to adjust their playbook.
Experts, including Rick Palacios Jr. from John Burns Research & Consulting, suggest builders could begin shifting away from buydowns and toward other tactics, like price reductions or reducing the square footage of homes, to attract buyers.
This shift is already being observed, with median new-home prices dropping nearly 5% in August to around $420K.
Balancing Incentives
As mortgage rates remain elevated compared to pre-pandemic levels, home builders face the challenge of balancing incentives while maintaining profitability.
Additionally, competition from previously owned homes could increase if more sellers return to the market. Builders had benefited from fewer existing homes being available, which kept demand for new homes high, but that dynamic could change as rates stabilize.
Time of Transition
Despite the challenges, home builder sentiment has remained positive, with builder stocks outpacing the broader market.
The SPDR S&P Homebuilders ETF surged nearly 67% in the past year, reflecting optimism about future demand.
However, as Tom Hennessy of Challenger Homes noted, the industry is in a “time of transition,” with builders needing to adapt their strategies to changing market conditions.
