US investors will get a reprieve from top-tier data in the new week, but likely not from volatility.
The docket is comparatively sparse. Notables will be confined to the housing market, which is struggling beneath a surge in mortgage rates that has no recent precedent.
Rates are the highest in 20 years. They’ve risen more than four full percentage points from the lows last year, and are up 150bps in eight weeks (figure below).
As Harley Bassman put it recently, the market will simply come to a halt under such conditions, particularly given that prices are still elevated, even as the pace of appreciation decelerates rapidly. That, in turn, could tip the world’s largest economy into recession.
To be clear, no one that I’m aware of expects the US to experience anything like the sort of housing correction many see for the world’s frothiest property markets. Nevertheless, I’d note that conversations I’ve had recently with agents suggest at least some in the industry are still struggling to come to terms with the reality of the situation. The market is teetering very precariously on the brink of a severe downturn.
“Prospective homebuyers and sellers barely had time to get used to 5.5% mortgage rates over the summer before they rose to nearly 7% this month,” Redfin Deputy Chief Economist Taylor Marr said last week. “The second sharp rate increase this year, together with nerves about inflation and the direction of the economy, is dragging home-sale activity down further than it was over the summer and pushing homebuyer sentiment down near its all-time low.”
Homebuyer mortgage payments are up almost 51% YoY based on Redfin’s calculations using the four-week rolling average of median asking prices. Both buyers and sellers are in a bind. Just about the only market participants (other than investors) who can still claim to be in a generally favorable position are those who plan to sell their existing home at an elevated price and then trade up in terms of relative “niceness” (for lack of a more technical term) by trading down in location. That is: Sell a home in a more expensive locale, take the cash and buy a nicer home in a less expensive locale. But because the property market is famously “location, location, location,” that might not be a particularly desirable option. For sellers who intend to trade up locally (or move to a comparable locale), they’ll need to either pony up more cash, or else take on a new mortgage at the highest rates in almost 22 years.
As far as buyers go, there’s little utility in recapping their unfortunate plight, but I’ll do it anyway. It’s becoming a buyer’s market in terms of leverage, but that assumes they have a downpayment and are fine with a hugely expensive mortgage relative to last year. Another recent Redfin article underscored the scope of the problem. “The typical US homebuyer who took out a mortgage in July made a $62,500 down payment, up 13.6% from a year earlier [and] almost twice the median $32,917 down payment in July 2019, before the pandemic.” The figure (below) illustrates the point.
A $62,500 down payment is well short of 20% if you go by median existing and new home prices, as reported by the NAR and the government, respectively.
That said, the same Redfin article noted that “the typical down-payment percentage hit a nine-year high in May, reaching 18%, before the housing market cooled considerably during the late spring and early summer.” As usual, I’ll concede to being surprised at what counts as a good housing market statistic. I was under the impression that post-no-doc-subprime-ARM fiasco, Americans were generally expected to have 20%. It’s not that 18% is necessarily “bad” (assuming you’re ok with PMI for a while). It’s that 18% counted as a nine-year high that was surprising to me.
During a recent conversation, an acquaintance in mortgage banking reminded me that the idea is to get people into houses, not keep them out, and that fair housing laws generally frown upon the kind of draconian underwriting standards I seemed to be advocating. She told me that, generally, buyers are expected to have two or three months’ “cushion” in addition to a downpayment. When I pushed back that two or three months hardly counts as a “cushion,” she irritably responded, “My job isn’t to make sure that the probability of a single mother defaulting on her mortgage is zero.” I let it go.
In any event, the US housing market is headed for a correction. And it’s by Fed design. You’re reminded that gains in property prices impeded the Committee’s efforts to reverse the vaunted “wealth effect” in Q1 and Q2 (figure below).
Even as the value of household equities fell by almost $11 trillion over the first half, real estate values continued to rise by more than $1 trillion per quarter.
With all of that in mind, investors will get a look at NAHB on Tuesday. Homebuilder sentiment, you’ll recall, is mired in a nine-month slump. A day later, data on starts and permits for September will be parsed following somewhat ambiguous figures for August. On Thursday, NAR data will probably show existing home sales fell an eighth month.
Also on deck: The Empire and Philly Fed surveys and the usual full allotment of Fed speakers, including Bostic (who was “unaware of any specific trades or their timing”), Kashkari (twice), Evans, Bullard, Jefferson, Cook, Bowman and Williams.
Even if nominal prices don’t fall, real adjusted for inflation prices will do so. If I had to guess, because of favorable demographics (demand) and favorable technicals (pretty tight supply) you are probably looking at flat prices over the next 5 years. But real prices will likely be 20-30% lower. Over time this will reduce the sting of high prices and the market will be better balanced in most places.
That said, I would not want to be making my living in a residential real estate related job.
Anecdotally, it did seem to me that 20% down was required for a few years after the GFC, but at some point since every homebuyer I talked to was taking out PMI to get into their house quicker.
Banks must’ve remembered that they like making money…
Has anyone but me noticed how easy it is to talk about “trillions” these days? Eleven trillion disappears. To paraphrase the late, great Everett Dirksen, “A trillion here and a trillion there and pretty soon it adds up to real money.”
I have noticed in my subdivision the developer is suddenly in a real hurry to build out every lot he has left so he can bail. I have noticed each new build is dragging out a bit and sales are taking longer to make. I suspect closing prices are falling as well. On the other hand my first real estate student, now semi-retired, still did $20 mil in sales last year and is still going.
Home prices in the U.S. are too high. Prices were in bubble territory before 2021 — and then they went much higher. They need to come down, and hopefully (for the sake of millennials and Gen Zers) normalized mortgage rates at 7% will do the trick.
I put my house on the market in July and have sold. Instead of purchasing a new home, I am going to rent at 2.5x my mortgage in a much nicer location. I plan to purchase a new home once the Fed has done its job and interest rates tumble back down.
Fingers crossed.
If you wait until interest rates tumble, you’ll be competing against every other Dick and Jane out there who are also waiting for interest rates to come back down.
I think your strategy is sound, Wave. I have done similar things in the past successfully. What dayjob may be missing in his comments is when it is again cheaper to buy and take out a mortgage, Dick and Jane will be shell shocked and expecting housing to keep going down. It is not easy to buy when most are still selling; we are herd animals and like to be in the middle of the herd, even if it is galloping off a cliff.
For example, looking at various technical signals and how the market reacted to bad news on the CPI, I have a strong sense that a sharp counter-trend rally began in the markets on Thursday and will continue for at least a month, maybe longer. But there is no way I can convince any of my friends to put money on it. They will only jump on board when the crowd does too, which is probably when I will be looking to exit.
It will be the same in real estate, but I expect you will be renting for at least a few years.
“During a recent conversation…I let it go.”
Your discussion reminds me of the scene in The Big Short in which the MS team was conducting field interviews while sitting in a female realtor’s car. Let’s observe what occurs by the middle of 2024. I believe democratic transition will play a part in this situation.
I think, more than anything, she was concerned about not saying the wrong thing vis-a-vis fair housing. She really is just an “acquaintance,” not a friend. I mean, she knows me, but not well enough to completely switch off “professional mode,” so to speak. So, I think she was being cautious not to say anything that might suggest she’s inclined to not giving everyone who technically qualifies a fair shot. I don’t think that particular conversation was indicative of obliviousness. The obliviousness I mentioned seems to be concentrated among agents, or at least seller’s agents. I don’t know what buyer’s agents are saying right now.