Average selling prices for new homes jumped in the first part of 2013 as a limited supply of homes and a shift towards higher-priced, luxury homes revamped the dynamics of the market, analysts claim.

Additionally, the decline in housing prices from peak levels and historically low mortgage rates have contributed to increased home affordability, boosting buyer demand despite modest economic growth over the past year.

The strong pricing trends are positive for homebuilder fundamentals, but as supply constraints moderate and interest rates begin to rise, a meaningful improvement in underlying economic fundamentals — job and income growth — will be necessary to sustain the housing recovery, according to Standard & Poor’s latest report. 

"Over the next 12 to 18 months we expect pricing trends and strong sales volumes will bolster ratings and credit quality of the homebuilders that we rate," said credit analysts for S&P.

They added, "But we believe better job and income growth are needed to sustain the housing recovery beyond the next 12 to 18 months, since we expect housing supply will increase from current very low levels, and higher mortgage rates and an increase in affordable single-family housing rentals could dampen buyer demand."

The builder's S&P Rating Services rates posted an average increase of average selling prices (ASPs) of roughly 10%, with several reporting even higher increases. 

Thus, higher ASPs will continue to grow over the next 12 to 18 months, but the growth rate will likely slow as the supply of homes for sale increases, the report said.

"We expect higher ASPs will enable most homebuilders to widen margins and increase operating profits despite our underlying expectations for increases in labor, materials, and land costs," the analysts stated. 

They added, "However, given the relatively modest job and income growth over the past year, improvement in some markets may be more measured, especially if the low mortgage rates that currently underpin home affordability change materially."

Mortgage rates are a particularly important demand driver for entry-level homes, since buyers are likely to rely more on mortgage finance. 

Additionally, the recent emergency of sizable pools of investor-owned single-family housing rentals in markets experiencing the greatest degree of price depreciation during the housing crisis may dampen housing demand and pricing in markets.

Thus, consumers will have more housing choices as the ease and availability of renting single-family homes improves, particularly for lower-priced, entry-level properties.

While the supply of existing single-family homes for sale totaled 53 months in April, up 13% from March, it is still significantly below the average supply level.

The inventory decrease is due to investors buying much of the distressed home inventory, primarily for conversion to rentals.

"As home prices collapsed during the housing downturn, investors bought up significant numbers of foreclosed and distressed homes in the hardest hit markets and are now repositioning them as rentals," the analysts explained.

They added, "While this development remains in an early stage, we believe it could alter fundamentals for single-family housing in certain markets."

The supply of new single-family housing is also down significantly from historical levels. 

Having hit a trough in 2011 at 431,000, new single-family homes starts improved over the past 18 months, totaling 610,000 on a seasonally adjusted basis in April, S&P noted.

However, this number is low compared with the long-run historical average of 1.2 million new single-family home starts annually between 1987 and 2006. 

Overall, home price appreciation has been a positive support for the housing market and will continue to benefit homebuilders over the next year.

However, the addition of a viable rental alternative for consumers may limit demand for single-family home purchases in the long term, particularly at the lower end of the pricing spectrum, weighing on the moderate pace of the housing recovery.

cmlynski@housingwire.com