Houses: People need them, but people can’t afford them.
It’s a problem when you need something you can’t afford. If the context is food, you could starve. If the context is housing, you could end up homeless, like more than half a million people across the richest nation the world’s ever known.
I doubt America’s legions of increasingly desperate would-be homeowners were glued to the bond market in recent weeks, but they should’ve been. Because the epic rally at the longer end of the Treasury curve spelled relief — at least on the financing side of an impossible equation.
Mortgage rates fell to “just” 7.07% on the MBA’s gauge, according to Wednesday’s weekly update.
The cumulative decline since late October is 83bps, a meaningful break, to be sure.
“Borrowers who had seen rates near 8% earlier this fall are now seeing some lenders quote rates below 7%,” MBA’s SVP and chief economist Mike Fratantoni said Wednesday. Applications rose 7.4% in the week to December 8 the MBA release showed. It was the sixth consecutive weekly gain. Refis picked up too.
Note that Jerome Powell has repeatedly referenced elevated mortgage rates while attempting to convey the Committee’s confidence that monetary policy is working through the usual channels. That’s in a part a response to those who argue (quite plausibly) that between the very low share of variable rate debt on household balance sheets and the terming out of corporate debt profiles, the “lags” this cycle are so long as to render policy impotent. In the meantime (i.e., while the Fed waits on rate hikes to work their magic), some measures of financial conditions are prone to bouts of dramatic easing in the presence of softer data and rate-cut speculation.
That’s not to suggest the Fed should put the entire burden of the inflation fight on aspiring homeowners (who should’ve bought in 2020 and 2021, when Powell was in the business of inflating a new housing bubble). It’s just to say that the near 1ppt drop in mortgage rates over the past six weeks is yet another manifestation of looser conditions. Note that on Goldman’s gauge, the last 30 days saw the third-largest financial conditions easing impulse of the pandemic era.
Of course, just because mortgage rates aren’t flirting with 8% anymore doesn’t mean all’s well that ends well for every American who’d like to buy a home. “Purchase volume was running about 18% below last year’s pace, as prospective homebuyers are still challenged by a lack of inventory, even as rates have decreased,” Fratantoni went on.
As Redfin’s Lily Katz noted last week, 2023 was the least affordable year for home-buying on record. If you made $79,000 this year, you needed to spend 41% of your earnings on monthly housing costs, assuming you bought the median home for roughly $409,000.
“That’s the highest share on record and is up from 38.7% in 2022,” Katz remarked. It’s also double the share from a decade ago.
Redfin’s senior economist Elijah de la Campa described “a perfect storm of inflation, high prices, soaring mortgage rates and low housing supply.”
But don’t despair. Things are looking up for 2024. “Mortgage rates are coming down, more people are listing homes for sale and there are still plenty of sidelined buyers ready to take a bite of the fresh inventory,” de la Campa said.
Yes, you too can taste the American dream, which in the 2020s means spending $400,000 on a fiber cement-encased wooden box situated on a sprawling 0.3-acre lot, close enough to the identical box next door that you can hear your neighbors arguing over the bills. Who’s hungry?!
If spreads (now about 300bp) were at more typical levels (150-200bp), mortgages would be more like high 5%s to 6%. If rate volatility subsides, spreads should narrow. If the Fed resumed buying MBS – well, that seems unlikely.
Suppose mortgage rates decline to 5.5-6.0%. The would-be borrower seeking a $400K mortgage could save $330/month from the payment at 7.0%. Or could borrow $455,000 instead. (Roughly – just poking at HP12C buttons.)
Are we confident which it would be?
Good post John L
Nice to see you again RIA.
+1
A couple of questions:
Per John L—Why is it so much higher?
I read today that the official numbers for shelter inflation in the CPI data tends to track the S&P Case Shiller house price index but with a 16 month lag. If that pattern holds then shelter inflation is due for a big drop in 1H2024. The info came from Troy Ludka of SMBC Nikko. What does shelter inflation mean/include?
I believe spreads are high because rates have been volatile and rising. If you’re a mortgage lender and lock a borrower’s mortgage rate for XX days, if rates move up the borrower will take advantage of the locked mortgage rate, while if rates move down the borrower will simply go with someone else’s lower mortgage rate. Also, the Fed stopped buying MBS as part of QT.
About 1/4 of CPI shelter inflation is “rent”, based on a survey of renters and thus a blend of new and renewed leases. This should lag indicies of asking rents (since those are new lease prices) and reported blended rents from the public apartment REITs (I think they have more new units, more rapid turnover, different geographic and unit type mix than the total national rental housing stock). Right now the asking rent indicies are flat to down and REITs are reporting positive low-single-digit percent YOY blended rent increases (from memory, may not be right) so eventually rent inflation might look like +LSD% YOY.
About 3/4 of CPI inflation is “owners’ equivalent rent” (OER) based on a survey of homeowners who are asked what their houses would rent for. This OER measure was introduced some decades ago, and replaced the previous method of tracking house values. The idea was supposedly that OER isolates the shelter aspect of owning a house, while house values reflects the investment aspect. OER tends to follow but lag house prices, presumably if you think your house is worth more to sell you also think it is worth more as a rental. Since house prices were flat YOY for a time this year, the hope is that OER will eventually go to flattish. On the other hand, if house prices go on a second run in 2024, are homeowners going to remember the flat period in mid 2023? I personally think homeowners have only the vaguest idea what their houses would actually rent for (I don’t) and that OER is a bad measure.