The Housing Market Blues

Article originally posted on CoStar on May 29, 2024

It’s been tough to navigate the housing market since the pandemic’s broader economic effects wreaked havoc on buyers and sellers. The primary impact has been the Federal Reserve’s move to push up interest rates to fight against inflation, increasing lending and mortgage costs.

The housing market is one of the most sensitive sectors to changes in interest rates. The latest readings from the Census Bureau and the National Association of Realtors showed that 4.77 million homes were sold in April at a seasonally adjusted annual rate, with both new and previously owned homes falling over the month. This amounts to about 22% fewer homes sold in the period than the five-year, pre-pandemic average.

There was some hope of a turnaround earlier this year when mortgage rates slid below 7% from their peak of 7.6% in October. The decline came in anticipation that the Fed might begin to cut rates as inflation eased. However, those predictions proved premature after inflation readings in the early months of the year proved stronger than expected, cooling that optimism. Mortgage rates began to rise again, weighing on home sales in March and April.

Thirty-year rates have now been above 7% again for the past six weeks, according to the Mortgage Bankers Association.

The lack of homes available for purchase also has stymied homebuyers. Some homeowners who might otherwise be considering a move are held back by the potential of buying a new home at a higher mortgage rate than their current home loan carries, delaying their plans to list their houses for sale.

According to the Federal Housing Finance Agency, almost 60% of existing first-lien mortgages have an interest rate of 4% or lower, and nearly 80% are at 5% or lower. As a result, cost-conscious owners are putting fewer homes on the market for buyers to pursue.

But the trend of ever-fewer homes available for sale may have bottomed out. The National Association of Realtors reports that inventories of existing homes for sale rose 9% in April to 1.21 million, up 16.3% from April 2023.

As demand for housing spiked earlier in the pandemic, builders ramped up construction to fill the gap in supply caused by homeowners staying put. However, higher construction costs due to snagged supply chains dimmed their enthusiasm in 2022, and housing starts plummeted through spring last year. Housing starts have turned around since then, but materials and labor shortages have hampered completions, as have higher financing costs and tightening lending conditions, according to the National Association of Home Builders.

Lighter inventory in the face of continued demand for housing has pushed home prices higher, worsening affordability. Prices have risen steadily since 2012, with only a slight dip in late 2022, early 2023, in response to the Federal Reserve interest rate hikes. Prices are almost 50% higher than in February 2020, before the onset of the pandemic.

The combination of higher rates and higher home prices has weakened affordability and is near a 40-year low, according to the National Association of Realtors, making homeownership more challenging.

It will likely be months before the housing market loosens up. Yes, some people are buying and selling despite higher costs and prices, possibly becoming more accustomed to these levels or hoping to refinance their purchases in a year or two once rates ease. However, mortgage rates are likely to stay higher for longer, as the Federal Reserve is becoming more cautious in its plans to cut its target rate given the recent higher-than-expected inflation readings.

Moreover, mortgage rates may stay higher regardless of what the Fed does. A Wall Street Journal article noted that the decline in demand for mortgage-backed securities by the Federal Reserve, banks and investors has left fewer funds available for mortgages.

In addition, fewer home sales and refinancing activity have had originators exit the market due to poor profitability, suggesting weaker competition among mortgage lenders. Thus, the spread between the 10-year Treasury and the 30-year fixed rate could stay wider than historic averages.