Lingering Problems with AD&C Credit=Shortage of Lots for Builders

A recent blog showed that, after many quarters of persistent and often extreme tightening, availability of credit for land acquistion, development and construction (AD&C) eased slightly at the end of 2012.

However, most of the improvement was in the availability of loans for single-family construction.  For land acquisition and development, NAHB members were closer to evenly split on whether credit conditions had improved or gotten worse.

A similar difference showed up in the percentages of builders and developers putting various types of projects on hold until the financing climate improves.  While “only” 32% reported putting single-family construction projects on hold in the fourth quarter, the shares were 44% for land acquisition and  49% for land development.

Although all were improvements over the previous quarter, the improvement was strongest in single-family construction.  As a result, a 17 percentage point gap has opened between development and construction—the largest since NAHB initiated the AD&C survey in its current form in 2008:

Throughout the period shown in the above graph, AD&C credit problems have tended to deter development more than construction.  But the difference has become more extreme now, with credit for construction improving much faster than credit for land development.

Single-family general contractors who don’t do their own land acquisition or development (in NAHB’s montly survey from last September, more single-family builders reported buying lots from others than developing their own) will see the improvement in availability of construction loans directly, but may see the lingering problems with land acquisition and development loans only indirectly, as a shortage of lots to buy and build on.

No wonder cost and availability of developed lots was one of the growing concerns mentioned by builders in the February 8 Eye on Housing.

NAHB Survey on AD&C Lending for the 4th Quarter

Builders and developers continue to report that credit for acquisition, development, and construction (AD&C) is improving slightly, according to NAHB’s survey on AD&C financing.  In the fourth quarter of 2012, the overall net tightening index based on the AD&C survey was -4.5, which was little changed from the third quarter.  The index is constructed so negative numbers indicate easing of credit; positive tightening.

A similar net tightening index from the Federal Reserve’s survey of senior loan officers was -13.4 in the fourth quarter.  So for two consecutive quarters now, builders and lenders have agreed that availability of credit in the construction sector is improving.

Of course, two quarters of modest easing is not enough to offset the many consecutive quarters of tightening that occurred between 2006 and 2011.  On balance, AD&C credit is probably still a drag on the housing recovery, as indicated by FDIC data on the stock of outstanding AD&C loans that, although no longer shrinking, is not growing to keep pace with the improvement in housing starts.

According to the NAHB survey, the greatest improvement occurred in the availability of credit for single-family construction.  Only 11% of NAHB members said availability of credit for single-family construction had gotten worse in the fourth quarter, compared to 29% who said it had gotten better.  For land acquisition, development, and multifamily construction, NAHB members were closer to evenly split on whether credit conditions had improved or gotten worse.

Among NAHB members who said AD&C credit conditions had in fact continued to deteriorate in the fourth quarter, the most common problems were lenders simply not making new AD&C loans (65%), reducing the amount they are willing to lend (62%), lowering the allowable LTV (or loan-to cost) ratio (62%), requiring personal guarantees or collateral not related to the project (60%), and refusing to make relationship loans (60%).

For more detail, see the full report on AD&C Financing for the 4th Quarter.

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.

Credit Still Tight, Although Builders Report Slight Improvement

Availability of new loans for acquisition, development, and construction (AD&C) has finally started to improve slightly, according to NAHB’s survey on AD&C financing for the third quarter  of 2012.  The overall net bank tightening index calculated from the AD&C survey dropped from +6.0 in the second quarter down to -4.3.  The way the index is constructed,  negative numbers indicate easing of credit; positive numbers tightening.  At -4.3, the index is now lower than it has been at any time since 2005.

NAHB’s net tightening index is now roughly in line with the similar index that the Federal Reserve produces from its survey of senior loan officers.  In the third quarter, the Fed’s net tightening index was -8.8.  Through 2010 and most of 2011, there was a 30 to 40 point gap between the NAHB and Fed tightening measures, but the two indices have since converged—and, in the third quarter of 2012, builders and lenders both agreed that availibility of credit in the construction sector was improving slightly.   Slight improvement in one quarter, of course, is not enough to undo all the cumulative adverse effects of the persistent and often massive tightening that occurred quarter-after-quarter from 2007 through (according to NAHB’s survey) 2011.

The view that credit for builders has improved slightly but still remains tight is consistent with NAHB’s analysis of FDIC data and housing permits.

Full results of NAHB’s AD&C financing survey for third quarter are available online: http://www.nahb.org/fileUpload_details.aspx?contentID=193736&fromGSA=1

AD&C Lending During the Third Quarter

Despite less than robust economic conditions, home building economic data have been fairly positive for 2012. For example, the level of residential construction spending is at a four-year high.

However, 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 slightly by $64 million during the third quarter of 2012 (i.e. the retirement of old debt exceeded the issuance of new debt by $64 million). The data for the third quarter marks four consecutive quarters of the outstanding stock of residential AD&C loans standing at either $43 or $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 suggest overall improving conditions for AD&C lending.

The current stock of existing residential AD&C loans (the blue area on the graph below) of $43.5 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 nearly 6%, such forms of AD&C lending are off a smaller 62% from peak lending.

While residential AD&C lending is down 79% from the peak, the stock of nonresidential AD&C loans has continued to fall while home building AD&C has stabilized. Nonresidential AD&C is down almost 15% over the last 12 months.

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 third quarter.

Since the beginning of 2007, the dollar value of single-family permitted construction is down 42%. 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 87% 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 $53 billion higher to support today’s level of housing permits. This gap has grown in 2012, increasing from $41 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 declines in total AD&C lending may have ended as of the second quarter 2012, lending conditions remain tight. And the tightness in lending is holding back home building from contributing more to a robust economic recovery in areas where demand for new homes is growing.

NAHB Survey: AD&C Credit Tightens for Land Acquisition, Multifamily Construction

NAHB’s newly published Survey on Acquisition, Development & Construction Financing shows that while there may have been some modest easing in lending conditions for new single-family construction loans during the second quarter, that slight improvement was more than offset by tightening on new loans for land acquisition and multifamily condo construction. In general, for any type of AD&C loan, more than half of builders and developers in the NAHB survey reported that availability of credit was about the same in the second quarter as it was in the first.

About 23% said credit had become less available for land acquisition loans, versus 15% for both land development and single-family construction loans. Meanwhile, the tendency to report declining availability of credit was stronger among builders with fewer than 25 starts — indicating that the effects of tighter credit conditions are hitting smaller builders harder than others. It follows that smaller builders in the survey were more likely to report putting projects on hold until the financing climate improves. Looking at the broader picture, shares of NAHB builder/developers putting various projects on hold increased in the second quarter following two consecutive quarters of improvement.  

Also during the second quarter, 29% of single-family builders reported using construction-to-permanent, or C-P, loans—that is, construction loans that automatically convert to long-term mortgage on completion for borrowers who want to close on both at the same time. Over half of these said their customers were having problems obtaining C-P financing, with the most common problem cited as low appraisals.

The leading reason given to builders by lenders for continued tight credit conditions for both new loans and existing loans is regulatory pressure on lenders, followed by regulatory/accounting rules and lender board of directors demand.

One upbeat finding of the survey was that the practice of lenders tightening terms on outstanding AD&C loans appeared to be receding. In the second quarter, shares of respondents reporting this problem were 25% (for acquisition loans), 30% (development loans), 20% (single-family construction loans) and 13% (multifamily construction loans). All of these percentages were the lowest on record since the question on outstanding loans was added to the survey in mid-2008.

In part, the overall survey data contrast with newly reported data from the FDIC, which provide a slightly brighter picture of AD&C credit conditions compared to the first quarter.  That analysis showed that the stock of outstanding AD&C loans for residential construction purposes rose for the first time since 2008, suggesting that new originations of loans are outpacing the volume of retirement of old debt.

A Turning Point for AD&C Lending

Despite softening economic conditions, home building economic data have been fairly positive in recent months. For example, the pace of housing starts now stands near a seven-year high.

And as we forecasted last quarter, the period of declines for the outstanding stock of Acquisition, Development and Construction (AD&C) loans appears to have ended. According to data from the FDIC, for the first time since the first quarter of 2008, the total amount of loans outstanding for residential construction (1 to 4 units) rose on a quarter-over-quarter basis.

The amount of the net increase was small (about $22 million), with the stock growing from $43.54 billion to $43.56 billion from the first to second quarter of 2012. It is worth noting – this is a net change, so given ongoing payoffs/discharges of existing AD&C loans, the actual amount of originated lending for AD&C purposes was considerably larger but cannot be estimated using the FDIC data.

The stock of residential AD&C loans (the blue area on the graph below) 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 slight increase in residential AD&C lending follows several quarters of progressively slower declines. The first quarter 2012 AD&C loan total was only 2.9% lower than the previous quarter, which in turn was 5.4% lower than the third quarter of 2011. Before mid-2011, quarterly declines averaged about 10%.

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 nearly 6%, such forms of AD&C lending are off a smaller 60.4% from the peak.

However, 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.

A broader look at credit conditions comes from the Senior Loan Office Survey from the Federal Reserve, which has generally been more positive than both the FDIC data and NAHB surveys. In general, the Fed survey indicated that the days of credit tightening, as reported by lending institutions, ended some time ago.

For example, the Fed survey results suggest that net tightening for homebuyer mortgage lending generally ended in 2010. This is consistent with the FDIC data on total residential mortgage debt, which has been relatively flat over the last two years despite ongoing household balance sheet repair.

However, the Fed survey data for commercial real estate (CRE) lending report no net tightening since late 2010, a period when AD&C loans outstanding have declined. This is in part due to the fact that the CRE category in the Fed survey covers a broader class of lending than home building AD&C.

Nonetheless, the most recent Fed survey results suggest that commercial real estate lending conditions are, on net, loosening, which is a positive signal for the availability of business credit in the coming months.

Despite the uptick in residential AD&C lending, a lending gap continues to exist between home building demand and available credit. Since the beginning of 2007, the dollar value of single-family permitted construction has fallen 54%. 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 87% of permitted value), then a lending gap opened in the middle of 2010. Using the same benchmarks, total AD&C lending should be nearly $47 billion higher to support today’s level of housing permits.

And despite the quarterly increase in AD&C lending, the size of this gap grew from the first quarter to the second quarter of 2012. The gap was only $40 billion for the first quarter, implying there is room to grow for AD&C lending purposes.

This 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 declines in total AD&C lending may have ended as of the second quarter, lending conditions remain tight. And the tightness in lending is holding back home building from contributing more to a robust economic recovery in areas where demand for new homes is growing.

Credit Conditions for Builders May Be Stabilizing, But Remain Tight

After more than five years of persistent tightening, NAHB’s survey on Acquisition Development & Construction (AD&C) financing finally shows conditions stabilizing somewhat in the first quarter of 2012.  After such a protracted period of decline, however, the stability comes at a very low level of credit availabity.  The NAHB survey results remain somewhat at odds with a similar net tightening index based on the Federal Reserve’s survey of senior loan officers, although the two indices now appear to be converging.  The Fed survey shows loan officers on balance reporting credit conditions in the real estate sector easing slightly since 2010, with more substantial easing occuring in the first quarter of 2012.

Among the types of loans covered in NAHB’s AD&C survey, credit still seemed to be tightening somewhat on loans for A&D.  In the first quarter of 2012, developers who said that availability of loans for land acquisition and development was getting worse (28% and 25%, respectively) continued to outnumber the relatively few (19% and 17%) who said conditions were improving.  The spread between the worse and better shares on A&D loans was noticeably larger for developers with fewer than 25 total starts.

The ending of further declines in AD&C loan availability and movement toward stability—albeit at very tight credit conditions—is consistent with evidence cited in the May 31 post by Rob Dietz, and with answers to questions included on the builder survey that generates the  NAHB/Wells Fargo Housing Market Index (HMI).

Two-thirds of builders responding to the May HMI survey said there had been no change in AD&C financing over the past 6 months.  In comparison, over that same period most builders reported that construction costs had gotten worse.  So, while the industry strives to recover from its most severe post-war recession, rising construction costs have emerged as a new obstacle, on top of other impediments like regulatory barriers and credit conditions that appear to be stabilizing but remain tight.

AD&C Lending May Enter a New Phase Soon

After a soft patch in late February and March, recent economic and housing data point to improvement in housing market conditions. For example:

• The NAHB/Wells Fargo Housing Market Index was up 5 points in April, the highest level in five years
• The NAHB/Wells Fargo Housing Opportunity Index, a measure of home buying affordability, is at an all time high
• Total housing starts were above a 700,000 annual rate for the sixth consecutive month

However, lending for acquisition, development and construction (AD&C) loans for home building purposes continues to decline. While a substantial part of the reduction since 2008 represents the write downs of bad loans, it is also the case that the drop reflects restrictive lending practices for emerging housing demand.

According to Statistics of Banking data from the FDIC, the total stock of outstanding AD&C loans for 1-4 unit properties totaled $43.7 billion in the 1st quarter of 2012. This is 79% lower than the peak level of AD&C lending of $203.8 billion reached during the first quarter of 2008.

However, the quarterly declines for AD&C lending have been slowing, and in the first quarter of 2012, the declines may have ended. The first quarter 2012 AD&C loan total was only 2.6% lower than the previous quarter, which in turn was 5.4% lower than the third quarter of 2011. Before mid-2011, quarterly declines averaged about 10%.

The FDIC data reveal that the constriction of home building AD&C lending continues to exceed that of other construction loans. All other AD&C lending are off 57.9% from the peak, compared to the nearly 80% decline for home building.

While consistent with NAHB surveys of home builders regarding the availability of credit, these data from the FDIC are somewhat at odds with the Senior Loan Office Survey reporting from the Federal Reserve. In general, the Fed survey data indicate that the days of credit tightening, as reported by lending institutions, ended some time ago.

For example, the Fed survey results suggest that net tightening for home buyer mortgage lending generally ended in 2010, which is consistent with the FDIC data on total residential mortgage debt, which has been relatively flat over the last two years despite ongoing household balance sheet repair.

However, the Fed survey data for commercial real estate lending indicate no net tightening since late 2010, a period when AD&C loans outstanding have declined, albeit for many reasons.

More fundamentally, a lending gap continues to exist between home building demand and available credit. Since the beginning of 2007, the dollar value of single-family permitted construction has fallen 56%. 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 equaled 87% of permitted value), then a lending gap opened in the middle of 2010. Using the same benchmarks, total AD&C lending should be at least $40 billion higher to support today’s level of housing permits.

So while the declines in AD&C lending may be ending, lending conditions remain tight. And this lending gap is holding back home building from contributing to a robust economic recovery in areas where demand for new homes is growing.

AD&C Lending for Home Building Remains Restrictive

A number of economic indicators are pointing to improving days ahead for housing and home building. These include

• The NAHB/Wells Fargo Housing Market Index reached its highest level since April 2007
• The NAHB/Wells Fargo Housing Opportunity Index, a measure of home buying affordability, is at an all time high
• The NAHB/First American Improving Markets Index now counts 98 metro areas as improving

But while housing starts moved up in late 2011, lending for acquisition, development and construction (AD&C) loans for home building purposes continues to decline. While a substantial part of the reduction since 2008 represents the write downs of bad loans, it is also the case that the drop reflects restrictive lending practices for emerging housing demand.

According to Statistics of Banking data from the FDIC, the total stock of outstanding AD&C loans for 1-4 unit properties totaled $44.9 billion in the 4th quarter of 2011. This is 78% lower than the peak level of AD&C lending of $203.8 billion reached during the first quarter of 2008.

 

However, the quarterly declines for AD&C lending have been slowing. The fourth quarter total was 5.4% lower than the third quarter figure, which in turn was 6.7% lower than the second quarter of 2011. Before mid-2011, quarterly declines averaged about 10%.

Moreover, the constriction of home building AD&C lending exceeds that of other construction loans. All other AD&C lending are off 55.5% from the peak, compared to the nearly 80% decline for home building.

While consistent with NAHB  surveys of home builders regarding the availability of credit, these data from the FDIC are somewhat at odds with the Senior Loan Office Survey reporting from the Federal Reserve. In general, the Fed survey data indicate that the days of credit tightening, as reported by lending institutions, have come to an end.

For example, the Fed survey results suggest that net tightening for home buyer mortgage lending generally ended in 2011, which is consistent with the FDIC data on total residential mortgage debt, which has been relatively flat over the last two years.

However, the Fed survey data for commercial real estate lending indicates no net tightening since late 2010. This is in contradiction to the FDIC data for AD&C purposes which indicate that outstanding loan totals continue to decline.

More fundamentally, a lending gap has opened between home building demand and available credit. Since the beginning of 2007, the dollar value of single-family permitted construction has fallen 58%. During this same period, home building lending for AD&C purposes is down 77%.

This lending gap is holding back home building from contributing to a robust economic recovery in areas where demand for new homes is growing.