|
|
Today it was reported that despite rising mortgage rates, home prices rose sharply in the U.S. in March. According to the S&P CoreLogic Case-Shiller Home Price Index U.S., home prices shot up 20.6 percent year-to-date.
Will prices and home sales drop as mortgage rates rise? It’s a mixed picture. The following is an overview of the current residential real estate market trends.
MORTGAGE INDUSTRY STRUGGLING UNDER RISING INTEREST RATES
In this year’s first quarter, the number of mortgage loans made to refinance homes plummeted 41 percent from a year before, with the industry expected to sign 37 percent fewer customers this year than last, according to data service Mortgage Finance.
In March, lenders were making an average of $2.36 per $100 loaned in a mortgage, the lowest margin since 2019; during the COVID War, the figure was as high as $5.99, according to the Urban Institute.
Lenders Rocket Loans and Wells Fargo have laid off staff in their mortgage lending offices this year; Better.com has offered buyouts to, or dumped, half its workers since December, according to The Wall Street Journal.
Refinancings made up the majority of home loans since spring 2020. People are still buying homes, but sales are slipping as prices and interest rates rise and the number of homes on the market remains small. (See related story in this issue.)
The rate on a 30-year, fixed rate mortgage averaged 5.24 percent nationwide on 30 May, Bankrate.com reported. At the end of 2021, it was 2.68 percent.
To survive, some lenders are trimming loan rates or cutting fees to lure borrowers. Others are selling their mortgage portfolios to raise cash or considering putting themselves up for sale, the WSJ noted.
Harder times may lie ahead.
The U.S. Federal Reserve’s interest rate hikes have already cut home sales, as we reported in “Pace of April Existing Home Sales Slowest in Two Years” (24 May 2022). Especially as interest rates rise, the U.S. risks a recession, which typically throws people out of work and increases the number of loan defaults.
TREND FORECAST: For 18 months, we have been forecasting that rising interest rates will cut home sales.
The higher rates add another burden to the record high home prices and slowing economy that are squeezing more and more potential homeowners out of the market.
As we have long forecast, the housing market will see a continual reversal when the U.S. Federal Reserve raises its key interest rate to or above 1.5 percent. When the interest rate climbs above 3 percent, there will be a sharp drop in home sales.
We repeat what we said in “Community Bankers: Housing Market Crash Coming?” (19 Oct 2021): when the housing markets slump, private equity companies—as they did before and are doing now—will keep buying up more houses to rent because fewer people will be able to afford to own homes: although prices will deflate to a degree, they will remain at historic heights, continuing to bar all but the cash-rich and well-off from ownership.
MORTGAGE RATES FALLING
Last week, the average U.S. interest rate on a 30-year, fixed-rate mortgage fell to 5.10 percent, according to the Federal Home Loan Mortgage Corp., the rate’s second consecutive week of declines.
The average rate peaked at 5.30 percent earlier this month, after beginning this year at 3.45 percent.
Rates are falling with demand.
The U.S. home-buying frenzy has pushed prices to astronomical levels, reaching a median sale price of $391,200 in April, as we reported in “Housing Boom Is All But Over, WSJ Says” (24 May 2022).
Fewer people can afford those hefty home payments or qualify for mortgages as prices rise, especially as interest rates also have risen after the U.S. Federal Reserve has boosted its rates twice this year.
In March, a U.S. household earning the nation’s median income needed to spend 38.6 percent of gross income to cover the payments, taxes, and insurance on a median-priced home, the highest proportion since August 2007, the Federal Reserve Bank of Atlanta calculated.
The percentage is up from 32.6 percent at the end of last year. Economists say that housing costs should take no more than 30 percent of gross income.
Home Sale Slide
In April, the number of homes under contract for sale was 3.9 percent fewer than in March, marking the sixth consecutive month of declines and the slowest pace in almost a decade, the National Association of Realtors (NAR) reported.
The number was 9.1 percent lower than in April 2021.
“Significant headwinds” against the housing market “include an unusually tight supply of homes for sale, substantially higher mortgage rates, and prices that are up sharply, a combination that could deter entry-level purchasers,” economist Joshua Shapiro Maria Fiorini Ramirez, told the Financial Times.
Mortgage rates have edged down in the last two weeks (see related story in this issue) but are still at least 32 percent higher than they began the year, according to figures from the Federal Home Loan Mortgage Corp.
The rate on a 30-year, fixed-rate mortgage last week was 5.10 percent; a year earlier, it was 2.95.
Higher rates mean higher mortgage payments at times when consumers are seeing prices for food and energy steadily pushing against the top of their budgets.
“Escalating mortgage rates have bumped up the cost of purchasing a home by 25 percent from a year ago,” Lawrence Yun, NAR’s chief economist, said to the FT.
“Steeper home prices are adding another 15 percent to that figure,” he added.
Pending sales fell most in the U.S. northeast, where they slumped 16.2 percent from March. The Midwest was the only region of the country where the number of deals expanded, rising 6.6 percent.
TREND FORECAST: As a result of higher interest rates, the number of home sales closed in April sank to rival the number sold in June 2020, during the COVID crash.
Should there be a massive drop in home prices and equity markets sink deep into bear territory, there will be sharp pressure from Washington to have the Federal Reserve lessen their interest rate hikes, just as President Trump did in 2018 when the equity markets were diving that December.
HOME SELLERS CUT PRICES
Despite what S&P CoreLogic Case-Shiller Home Price Index reported today that U.S. home prices shot up 20.6 percent year-to-date, almost one in five people selling their homes during the four weeks ending 22 May cut their asking price, according to brokerage Redfin.com.
This is a reversal of the trend that prevailed through 2021 and early this year when prospective buyers were bidding up home prices by double digits.
The amount of time houses spent on the market also grew, while the percentage of homes selling above their listing prices fell.
Higher mortgage rates, a small number of homes on the market for sale, and a cloudy economic outlook are conspiring to cool the U.S. housing market.
“The picture of a softening housing market is becoming more clear, especially to home sellers who are increasingly turning to price drops as buyers become more cost-conscious under higher mortgage rates,” Redfin chief economist Daryl Fairweather said in a statement announcing the changes.
TREND FORECAST: Home prices and mortgage rates will continue to fall in tandem.
With prices at record levels, fewer people can afford to buy a house; sellers who want to sell to people other than the upper middle class and wealthy will have to continue to drop prices to find buyers.
Similarly, as we reported in this issue, “Escalating mortgage rates have bumped up the cost of purchasing a home by 25 percent from a year ago,” Lawrence Yun, NAR’s chief economist, told the Financial Times. “Steeper home prices are adding another 15 percent to that figure.”
Therefore, banks that want to generate mortgage loans will continue to shave rates as closely as they can to attract business—a challenge that will become greater as the Fed continues to stair-step interest rates through the rest of this year.
APARTMENT INVESTORS PRESSURED BY RISING INTEREST RATES
Apartment buildings became the most popular real estate investment in recent months, with buyers bidding up prices to record levels, as we reported in “Commercial Real Estate Investments Hit Record Level. Read Between the Lines” (1 Feb 2022).
Mortgages on apartment buildings have doubled in value to $1.8 trillion since March 2020, the Mortgage Bankers Association says.
Now, with interest rates rising, the fat profits that investors envisioned are looking much thinner.
If borrowing costs continue to rise, landlords might see no option but to raise rents, which many already have done as demand for apartments has skyrocketed in the last two years.
Many investors bought residential buildings because they saw rents rising steadily into the future, as we reported in “Apartment Rents Climbing” (20 Jul 2021).
However, with inflation running above 8 percent and eating up household budgets, landlords now run an increasing risk of tenants unable to afford to keep up their rent payments, especially at 2021’s elevated levels.
In 2020 and 2021, the sale of apartment buildings almost doubled, according to real estate data firm CBRE Group.
In this year’s first quarter, investors shelled out a record $63 billion to buy multifamily residential properties, driving up prices 22.4 percent, year on year, according to MSCI Real Estate.
However, the apartment boom may be a victim of its own excess.
First, prices rose so fast that many investors are now operating with relatively modest rates of return, The Wall Street Journal reported.
Second, interest rates have begun a steady march upward.
For some investors, the rate of interest on their mortgages is now as much as a point higher than the rate of return on their properties, meaning that owning apartment houses is costing them money, at least on paper.
“The imbalance means landlords make less money on their buildings than their banks do, even though [landlords] carry much more risk,” the WSJ noted.
Known as “negative leverage,” the last time this imbalance was so pronounced was during the Great Recession, when defaults on apartment-building mortgages skyrocketed.
However, a wave of foreclosures is unlikely today, the WSJ said.
Investors are less indebted this time. Also, apartment buildings are seen as stable investments and so are likely to continue to appeal to pension funds and other institutional investors.
In addition, investors seem optimistic that they can continue to raise rents to lift themselves back into profitability later, the WSJ reported.
That may be a gamble.
The median U.S. apartment rent rose to a record $1,827 in April, Realtor.com, a 17-percent hike year over year, Realtor.com reported.
Now landlords face the risk that lenders’ interest rates will rise higher and faster than property owners can jack up rents.
Investors usually calculate a property’s profits by dividing its profits before mortgage payments by the purchase price. The rate of profit should be higher than the mortgage’s interest rate.
However, the rate has been declining and the two numbers have been squeezing closer and closer together since 2015, CBRE said.
Some investors have bought buildings with ratios as narrow as 3.5 percent, the WSJ noted, while interest rates on some mortgages are now above 4.5 percent.
If rents rise more slowly than interest rates, properties’ market values will fall, putting investors “under water”—owing more to their banks than they could collect by selling their buildings, David Brickman, former CEO of the Federal Home Loan Mortgage Corp., said to the WSJ.
TRENDPOST: Rents have been pushed to exorbitant levels, in part, because private equity firms have bought tens of thousands of single-family homes, shrinking the pool of properties for people to buy.
After purchasing the houses, the firms raise rents to the maximum the market will allow.
The people unable to afford homes in a market with rising prices are left to rent apartments, raising demand, which, in turn, drives rental rates higher.
Exorbitant rents squeeze low-and middle-income earners, leaving them unable to save enough not only to buy a home, but even just to be able to move to a better apartment.
With new construction catering to well-off tenants and buyers, there will be no increase in the number of flats affordable by middle and low-income households, forcing rents higher for those that exist.
TREND FORECAST: If landlords squeezed by higher interest rates attempt to raise rents even more, an increasing number will face rent strikes and other forms of protest by tenants who can neither pay more nor find cheaper places to live.
The shortage of moderately-priced apartments will pressure governments and nonprofit groups to create more subsidized housing, especially as the population ages.
More broadly, the high price of houses, and now record-high apartment rents, will continue to be a key factor thinning out the middle class, reducing the U.S. to a society of a well-heeled minority and a majority that struggle harder and harder to survive.