KBRA Financial Intelligence

Slumping New Home Sales Signal Further Challenges for Residential Construction Lending

Residential Construction Trends

Data from the U.S. Census Bureau indicates that while the value of residential construction spending has continued to rise, single-family construction starts (measured in units) fell to a three-month low in October. Sales of newly constructed single-family homes also declined sharply, dropping to their lowest level in nearly two years following a 17.3% month-over-month decrease. This marks the steepest fall since 2013.

According to KFI data, the outstanding sum of domestic loans secured by one- to four-family residential construction projects among U.S. commercial banks has declined year-over-year (YoY) across each of the five quarters to 3Q 2024. In that latest quarter of data, residential construction lending slumped at a pace of 8.4% YoY. Although other construction and land development loans continued to grow, it was at an annual rate of just 1%—the slowest pace of expansion in 11 years. These two loan classifications represent the domestic construction, land development, and other land loans category of banks’ total real estate loans within FFIEC call report forms. The combined value of these two classifications can be retrieved with KFI’s Excel add-in by using the mnemonic KCALLCDLNS.

Impact of Resurgent Mortgage Rates

The slight momentum in homebuilding and home sales observed in late 3Q 2024 was derailed by a sudden rebound in mortgage rates. The average rate for a 30-year fixed mortgage increased to over 6.7% in October from a two-year low of 6.1% in late September, an increase of 64 basis points (bps) and the largest monthly rise since 2022. This upward trend continued into November, with rates climbing an additional 9 bps.

Both Home Depot and Lowe’s reported their eighth consecutive quarters of YoY declines in comparable sales in 3Q 2024. Home Depot CEO Ted Decker noted on the company’s November earnings call that housing turnover is at a 40-year low and “big-ticket” transactions of more than $1,000 were down 6.8% in its most recent quarter of results. Those big-ticket sales are often associated with discretionary home improvement projects, which tend to be funded with financing from home equity lines of credit (HELOC). Similar to standard mortgage loans, HELOCs are also experiencing continued elevation in rates, which likely explains a concurrent slowdown in home improvement spending.

Delinquency rates have risen as construction and development (C&D) lending volume decreases. Among 2,943 banks with at least $5 million in outstanding C&D loans, the average delinquency rate climbed to 1.3% in 3Q 2024, up 10 bps from the prior quarter—the highest rate since 2020. KFI previously noted that sustained slowdowns in loan originations can lead to higher delinquencies, as aging loans in portfolios are more prone to financial strain. Borrowers who were creditworthy at origination may face challenges over time, increasing delinquency risks, while prepayment and refinancing by high-quality borrowers leave portfolios with a higher concentration of riskier loans.

Notable Banks With Above-Average C&D Loan Exposure

KFI data shows that New York’s NorthEast Community Bank (KFI Score: C+) stands out as the American bank with the highest concentration of C&D loans on its books. At 77.5%, the depository’s ratio of C&D loans to total loans is more than 8.3x the average among a cohort of banks with at least $5 million in C&D loans outstanding. NorthEast Community Bank has recently defied the downturn in residential construction lending, increasing its holdings of such loans by 1.8% over the past four quarters. Although the delinquency rate of its C&D loans remains below average at just 1%, it marks an increase of 63 bps throughout the year to 3Q 2024. Third Coast Bank (KFI Score: B) has seen its lending move in the opposite direction, not only increasing outstanding one- to four-family residential construction loans by more than a quarter, but reducing its overall C&D delinquency rate by 35 bps YoY.

Pioneer Bank (KFI Score: C+), headquartered in New Mexico, has seen its construction lending go in a different trajectory. Its holdings of one- to four-family residential construction loans have receded 23.8% over the past year, while its other construction and land development lending has fallen by a steeper 39.3% throughout the same period. Delinquency within the bank’s residential construction loans and its other construction and land development lending have ticked up quickly, jumping to 12% from 0% over the past four quarters. Several banks that are experiencing material shrinkage in their residential mortgage loan book have experienced a simultaneous surge in delinquency rates impacting these loans. California Pacific Bank’s (KFI Score: B-) outstanding C&D lending has been slashed nearly in half over the past year as the delinquency rate impacting these loans jumped to 53.6% in 3Q 2024 from 0% in 3Q 2023.

Ongoing weakness in residential construction starts and permitting suggests that C&D lending may continue to contract in 4Q 2024. The challenges in the market for newly built single-family homes could have downstream effects on construction activity, potentially exacerbating issues for banks already facing declining loan volumes and increasing delinquencies. Individual banks and credit unions can be sorted by loan categories and the delinquency rate impacting those loans, via the Data Wizard in KFI’s Excel add-in, as well as the Loan Category and Delinquency Report template from our Template Library. To access our full library of tables and templates, request a demo with KFI.