The problem with land banking is you are essentially selling a call option for ~10% but if home prices fall, the lots will fall by essentially 3x whatever home prices fall by. This is a function of how lots are priced as a % of a home’s ultimate sales price.
Homebuilders know this, which is why they still choose to use land banks even though they could get cheaper financing using their own balance sheet. I’ve worked on several land banking transactions before, and I could never get comfortable with how lopsided the bet is.
Thanks - that's really interesting. A 3x loss in a 10% house price drawdown could halve Millrose's equity and it has no way of making the losses back. Out of interest do you know of any public datasets that back up that 3x figure?
Posting a response in my Notes so I can paste an image of the math. It is more just a mathematical operation that is based on the homebuilder getting constant margins and home construction costs staying constant (homebuilder margins and construction costs can drop a little bit in a home price downturn but they generally don't move a whole lot). Lots are priced on a percentage of home price basis, which is how you can derive the value reduction.
The problem with land banking is you are essentially selling a call option for ~10% but if home prices fall, the lots will fall by essentially 3x whatever home prices fall by. This is a function of how lots are priced as a % of a home’s ultimate sales price.
Homebuilders know this, which is why they still choose to use land banks even though they could get cheaper financing using their own balance sheet. I’ve worked on several land banking transactions before, and I could never get comfortable with how lopsided the bet is.
Thanks - that's really interesting. A 3x loss in a 10% house price drawdown could halve Millrose's equity and it has no way of making the losses back. Out of interest do you know of any public datasets that back up that 3x figure?
Posting a response in my Notes so I can paste an image of the math. It is more just a mathematical operation that is based on the homebuilder getting constant margins and home construction costs staying constant (homebuilder margins and construction costs can drop a little bit in a home price downturn but they generally don't move a whole lot). Lots are priced on a percentage of home price basis, which is how you can derive the value reduction.
Thanks!