AD&C Lending in the 4th Quarter of 2012

One factor holding back an even stronger rebound in home construction is the lack of accessible Acquisition, Development and Construction (AD&C) loans. While it appears the period of dramatic declines of the outstanding stock of AD&C loans ended in 2012, there has not yet been a robust expansion of lending consistent with current demand for home building. 

According to data from the FDIC, the outstanding stock of AD&C loans made by FDIC  insured institutions fell by $1.1 billion during the final quarter of 2012 (i.e. the retirement of old debt exceeded the issuance of new debt by $1.1 billion), a quarterly drop of only 2.6%. The data for the fourth quarter marks five consecutive quarters of the outstanding stock of residential AD&C loans standing in the range of $42 to $44 billion.

It is worth noting, the FDIC data report only the stock of loans, not changes in the underlying flows, so it is an imperfect data source. Nonetheless, the stabilization of the stock value over the last year suggests overall improving conditions for AD&C lending.

The current stock of existing residential AD&C loans (the blue area on the graph below) of $42.4 billion now stands 79% lower (denoted by the red line) than the peak level of AD&C lending of $203.8 billion reached during the first quarter of 2008. 

The FDIC data reveal that the total decline from peak lending for home building AD&C loans continues to exceed that of other AD&C loans (nonresidential and some land development). Although these non-home building AD&C loans declined in the second quarter by more than 3%, such forms of AD&C lending are off a smaller 63% from peak lending.

It is worth noting that some land development loans connected to home building are grouped in this other class. NAHB survey data suggest land development loans face tighter lending conditions than loans for residential construction purposes, so the quarterly decline in this other class may reflect ongoing tightness for acquisition and development purposes.

Despite the recent stabilization in residential AD&C lending, a lending gap between home building demand and available credit has existed and in fact widened during the fourth quarter.

Since the beginning of 2007, the dollar value of single-family permitted construction is down 46%. During this same period, home building lending for AD&C purposes is down 79%.

If we assume that the ratio of total AD&C lending to the value of housing permits at the beginning of 2007 reflected normal levels (total AD&C loans outstanding equaling 88% of permitted value), then a lending gap opened in the middle of 2010.

Using the FDIC data and a six-month moving average of housing permit value, total AD&C lending should be $64 billion higher to support today’s level of housing permits. This gap has grown in 2012, increasing from $44 billion in the first quarter of the year.

The lending gap is made up with other sources of capital, including equity and investments from non-financial institutions, which may in many cases offer less favorable terms for home builders than traditional AD&C loans.

So while the large declines in total AD&C lending may have ended as of 2012, lending conditions are not changing enough to keep up with the demand for home building. And the tightness in lending is holding back home building from contributing more to a robust economic recovery.