The long anticipated slowing of the housing market may finally be here.
This is the result of a nearly 0.75 percent increase in interest rates since September and a growing perception among prospective buyers that prices are too high. I view a slowdown as healthy, given how red-hot many real estate markets have been for the past five years. A slower rate of home price growth will save us from the formation of a new housing bubble.
Here’s a quick overview of the latest housing market indicators and a brief explanation of why the housing market still has room to run.
Housing has Cooled, but Home Prices Will Continue to Increase – Just
- Mortgage applications for both refinances and home purchases fell in July, continuing the recent trend of easing demand.
- In July, mortgage applications dropped by 1.8 percent month-over-month (m/m). This marked the third consecutive month of contracting mortgage demand and left total applications at their lowest level in three and a half years. The decline in demand was evident across both the refinance and home purchase sectors. A 3.9 percent m/m drop put refinancing activity at a 17.5-year low. The decline in home purchase apps was a more modest 0.6 percent m/m, which continues the pattern of essentially flat demand that has been evident for the past year.
- The months’ supply of homes nationally increased to 4.0 in June and July (still low), from 3.7 during Q1. The months’ supply stood at 4.0 a year ago and we still experienced 6.6 percent home price growth over the past year.
- Flat demand is the result of low inventory levels, continued tight mortgage lending standards1 and growing concerns that house prices are too high. High home prices helped drive down buying sentiment to near 10-year lows and imply that home purchase demand is likely to cool.
Chart 1: Lower “Good Time to Buy” Survey Results Suggest Continued Slowing
Chart 2 looks at several subcomponents from the “Is it a good time to buy a home?” survey.
The main culprit for the declining trend is the increase in the number of people who say prices are too high. It’s a particularly interesting reason, given that the percentage of people who say it’s a bad time because they can’t afford a home is close to a 15-year low!
This is consistent with my long-held view that affordability is actually better now (nationally, at least) than it was for any year between 1975 and 2012, thanks to interest rates that are still historically low. This suggests that concerns about the housing market hitting a wall are incorrect. If inventory levels start to improve over the next year, as I expect, home sales could pick up even if mortgage rates rise another quarter or half a percentage point.
Chart 2: “Reasons It Is a Bad Time to Buy” Survey Results, in Percent
While a few media commentators are using the recent slowdown to claim the sky is falling, the recent cooling is actually good news because it means we are more likely to experience sustainable home price growth over the next few years and avoid another bubble. The big picture remains supportive of housing, due to:
- A continuing housing shortage in most major cities, particularly in the entry-level market (Zillow reports very tight inventory, but at the high end of the market, inventory did increase in many cities and there were more price cuts as a result).
- A strong job market, particularly in urban areas.
- A federal fiscal stimulus adding ~ 0.4 percent to GDP growth in 2018 and early next year, from tax cuts and increased spending.
- In August, the Conference Board’s consumer confidence measure hit a 17-year high.
- Affordability is still better nationally than any year before 2010 (the data starts in 1975) due to low interest rates. U.S. affordability will be similar to the average during the 1990s once rates rise to 5.25 percent. However, housing affordability feels bad to potential buyers because it’s the worst in 10 years due to the double whammy of higher prices and rates.
Chart 3: Affordability Worst in 10 Years, Yet Better Than Pre-Crisis
1 See the Urban Institute’s Housing Credit Availability Index.
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