Additional spec homes on the way for entry-level prospective buyers

“There’s very strong demand for specs, but it’s not because people want a spec-finished home,” says Alan Ratner, director of home building research at Zelman and Associates. “It’s because they want an entry-level home.”

Entry-level buyers are gradually venturing into the market. First-time buyers comprised 35 % of home buyers in 2016, a 10% jump over the previous year, in accordance with the National Association of Realtors® (NAR). Seventy-two percent of buyers under the age of 36 years old purchased homes below $300,000; 67% of buyers aged 52 to 61 purchased at that amount; and 69% of those aged 62 to 70 did so, as outlined by NAR’s 2017 Generational Trends report.

LGI Homes, as an example, started offering quick-delivery homes in 2016. The builder targets the entry-level market having an average home price of $208,000. LGI Homes posted a 22% spike in home closings last year, and a record high of 467 closings in December. CEO Eric Lipar said in a fourth-quarter LGI earnings call that the appetite for spec homes is high.

D.R. Horton, the nation’s largest builder in closings, is finding greater business too in their entry-level Express Homes line. That segment features homes priced between $120,000 to $150,000. COO Michael Murray estimates 70% to 80% of the company’s sales are supported by spec homes now.

“If you look at the number of homes sold, 85% of them are resales, used homes, and another very important part of our sales equation is Realtors,” says CEO David Auld. “Outside Realtors are a huge part of our sales efforts, and our spec program keeps those relationships engaged and mutually benefiting.”

While built-to-order homes tend to have higher margins, builders believe you will find there’s place for spec homes again in the market too. One benefit to spec homes for builders is because they tend to offer a faster conversion cycle.

“Entry-level homes have lower margins because the buyers are adding fewer, if any, upgrades,” says Alan Ratner, director of home building research at Zelman and Associates. “The way you hit your return threshold is a much stronger absorption sales pace, and the way you do that is you churn and burn through it by building spec and selling them as quickly as possible.”

Selling homes later in the process may also help home-builders better manage their costs too. They can increase the price later if materials or labor costs take up a greater portion of their budget, Ratner says. As long as the spec home sells before the construction is completed, the strategy is effective from a cash-flow perspective to builders, says Alan Laing, executive vice president of operations at Taylor Morrison.

Further, building on spec can assist builders get ahead of the market or provide a more affordable project. However, they can encounter problems should they wind up having too many homes being built or ready to sell.

Ratner notes that home building is cyclical and, previously, an increase in completed spec homes usually coincided with an eventual pullback in the overall market. On the cusp of the Great Recession, as an example, completed spec homes accounted for 51% of new-home sales in 2008.

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