Interest rates

Can house prices and interest rates skyrocket at the same time?

It is becoming more and more expensive to buy a house in America. Mortgage interest rates, historically low for most of the pandemic, are rising faster than they have in decades.

Put the two trends together, and the potential monthly mortgage payment for homebuyers – combining principal and interest payments – is really to take off:

In February, according to the Mortgage Bankers Association, the median monthly payment for a new mortgage application in the United States jumped more than 8% in just one month. This spike indicates an entirely new and unpredictable phase in what has been a breathtaking housing market.

In normal times, rising mortgage rates are expected to help cool house prices. But it is possible for now that the two measures will continue to advance together, making buying a home increasingly expensive.

“There are so many weird things going on right now,” said Edward Seiler, associate vice president for housing economics at the Mortgage Bankers Association.

It’s been 40 years since rates have risen this way alongside similar growth in house prices and high inflation. This time around, the United States is also experiencing a severe housing shortage. And then there’s an uncertain new dynamic – the sudden rise of working from home, which has the potential to change what homebuyers want and where they live.

“No one really knows what’s going to happen over the next year,” Mr. Seiler said. It is therefore difficult to predict when the rates could start to slow down the rise in prices.

Among a subset of Freddie Mac-backed mortgages, the monthly payment made by new buyers has risen more sharply since the start of the pandemic than at any time in the past 25 years.

“It shows you the composite artifact of both rising rates and rising house prices,” said Sam Khater, chief economist at Freddie Mac. “We’ve had bouts of each in the past – but not as intense for both.”

At the start of the pandemic, falling mortgage rates allowed house prices to rise – and offset them with monthly mortgage payments that remained flat for much of 2020. But with both metrics rising at the same time, monthly payments can increase rapidly, as they have in Sun Belt and the Mountain West states in particular.

Rates and house prices may well continue to rise together for several reasons related to the current high inflation. The rents are now too. That means the alternative to buying isn’t particularly appealing either. And in a time of high inflation, buying a home — and locking in today’s monthly payment for the next 30 years — is a good way to hedge against rising rents. In an environment of 8% annual inflation, a mortgage interest rate of 4.5% is actually a bargain.

For potential buyers, “the alternative is both the rental option, as well as the where do you put your money?” said Arpit Gupta, a professor at NYU’s Stern School of Business. During past periods of high inflation, real estate has tended to be a better asset than other types of investments like stocks (and better than leaving money in a checking or savings account) .

Gupta warns that rising rates may also further aggravate rent inflation, as it pushes more people out of the buyer’s market and into the rental market, driving demand there. In a sort of feedback loop, these ever-increasing rents will also continue to put pressure on people who can afford to buy instead, even at higher interest rates.

So far, with mortgage rates rising half a point over the past four weeks, there is little evidence the market is calming down. Over the past month, the share of homes for sale that accepted an offer in just one week reached a recordand last week’s list price are always setting new heights.

“I don’t see a lot of concern from my buyers,” said Beth Abeita, a Redfin real estate agent in Austin, Texas, where home prices have been rising. an incredible 30% in 2021. On the contrary, she says, she hears people worrying about the stock market, not mortgage rates – both because they now think housing will be a better investment, as Mr Gupta suggested, and because falling stock prices mean some buyers will have less money for a down payment.

There is logic in getting into tenders for scarce housing right now before the situation gets worse, Ms Abeita said.

Interest rates won’t go up for you anymore,” she said of those who got homes. “You’re not going to pay even higher prices in three months. What you think you’re paying too much for today will be big business in a few months because everything is going up so quickly.

This touches on another reason why demand is unlikely to slow yet: the expectation of higher rates ahead could lead to more buyers trying to get ahead of them now.

In this environment, buyers are also still competing for a historically tight supply. Inventory of homes for sale has reached record levels, with more homeowners keeping homes as buy-to-let investments instead of selling them, and with potential sellers worried they won’t find their next home without enter the market. Higher rates will likely deter some sellers as well, as they choose to stay in a recently refinanced home at rock bottom rates rather than move into a new home at twice the interest rate.

Exacerbating all these challenges, there has been under construction in the United States for yearsespecially in expensive coastal metros where accommodation is in high demand.

“Higher rates don’t solve any of this,” Mr. Khater said. “It might bring a little more balance to the market – modestly more balance – but it doesn’t solve the fundamental problem.”

In other words, higher rates will not create more supply. On the contrary, rising rates across the economy will also increase borrowing costs for homebuilders, on top of all their other pandemic issues.