Headwinds in the Housing Market
According to the S&P / Case-Shiller U.S. National Home Price Index, housing prices have been rising steadily for nearly a decade, with an acceleration since the pandemic as increased in-migration created a boom for certain U.S. markets.
However, signs in the second half of 2022 are pointing to a housing market slowdown.
A significant increase in mortgage interest rates since the beginning of the year paired with rising inflation is putting pressure on the housing market.
“We’ve seen an increase in mortgage interest rates by over 300 basis points since the beginning of the year,” shared Danny Hill, head of Regions Homebuilder Finance. “Early in the year, the 30-year conventional fixed rate was in the 3- to 3 ¼-percent range. Despite some fluctuation rates have moved consistently higher in excess of six percent currently.”
Regions Chief Investment Officer Alan McKnight noted a definite slowdown across housing as mortgage rates rose for the fifth straight week, recently hitting 7 percent. The rate on a 30-year fixed mortgage is at its highest level since October 2008.
“We are seeing first-time homebuyers being squeezed out of the market,” Hill said. “Since the pandemic, affordability has increasingly been an area of concern. In 2022, the impact of rising interest rates and inflation have worsened the situation significantly.”
Shifting Homebuilder Strategy
In 2021, homebuilders were more educated and sophisticated in how to deal with these factors because many had weathered the housing market crash of 2007-2010.
“Around 75 percent of homebuilders that existed in 2006/2007 went out of business in the crash,” said Hill. “Those that remained have seen the housing market at its worst and are much better prepared to manage through anything that might happen now.
The supply chain disruptions had a significant impact on housing prices and delivery times. When these disruptions became critical and housing prices continued to soar it was difficult for homebuilders to price a presale contract.
“There was a deliberate slowing or staging of construction of new homes,” Hill said. “Builders were more reluctant to price contracts and there was more emphasis on spec homes beginning in the latter part of 2021. Those specs converted to sales once builders had them far enough along to determine their cost, leaving very little completed inventory.”
This year, as rates and inflation became an issue, builders began to back off the spec strategy and still had strong sales backlogs, shifting their focus to getting those houses completed and closed.
“Pre-pandemic, when a builder sold a house in a given neighborhood, they started a new one. In today’s world, they may start a new one for every two or three sales.” said Hill. “The pace has slowed, and sales backlogs are down from 2021 when they were at all-time highs. We all knew that the 2021 pace was unsustainable. So, now we’ve begun to compare 2022 to 2019 which was an excellent year for housing. We’ve found that in most statistical categories the results are favorable.”
The supply chain issues are still there, although at this point most builders have developed secondary sources for the most affected materials. They’ve also learned how to schedule more efficiently. In addition, lumber prices are considerably lower than at their peak earlier this year, making it much easier to determine cost. As a result of the heightened market risk, builders have returned to writing contracts for presales in addition to working through sales backlogs and being very cautious with spec starts.
Florida, Texas and Western States Among Bright Spots
As mortgage rates rise and home prices remain elevated, buyers are migrating at an unprecedented rate to more affordable locales. According to Redfin’s Top 10 Metros by Net Inflow of Users and Their Top Origins, Florida ranked the highest nationally, driven by relocation to Miami (1), Tampa (2), Cape Coral (6), and North Port/Sarasota (8). While the high in-migration western cities ranked 3-7 are out of Regions’ footprint, San Antonio and Dallas rank ninth and 10th and are strong markets in the Regions portfolio. While not included in the top 10, Atlanta, Nashville, and the Carolinas have also seen strong in-migration.
“We’ve seen notable in-migration from large cities in California and in the northeast to the southeast and southwestern states, with the Texas and Florida markets headlining as prominent relocation destinations,” said Hill.
New York City, Los Angeles, San Francisco and Chicago are the top origins for metros with high net inflows. Migration pathways underscore higher demand in the Sunbelt for income property and investor real estate, implying that the housing market has not yet cooled in the Southeast and Texas.
Backlogs on New Housing Starts; Existing Homes Undersupplied
With inflation at a 40-year high and increased interest rates putting pressure on consumers, demand for new homes has declined following its rapid ascent as the Federal Reserve kept rates at historic lows during the height of the pandemic. This means that the backlog of homes under construction is growing, leaving builders with less appetite to complete specs. This has led to an increasing decline in single-family starts. However, August saw a break from the downward trend.
“Total housing starts rose to an annualized rate of 1.575 million units in August, handily beating expectations, ours and the consensus,” said Regions Bank Chief Economist Richard Moody in his report, August Residential Construction: Rise In Starts A Break From A Downward Trend. “That the August data surprised us to the upside is a genuine beat, as the not seasonally adjusted data on both permits and starts trounced our forecasts, as opposed to seasonal adjustment noise.”
However, in August existing home sales declined. The current inventory stands at 3.2 months’ supply, as the median existing home sale price rose by 7.7 percent on a year-over-year basis.
“Total existing home sales fell to an annualized rate of 4.800 million units,” Moody noted in his recent economic update, August Existing Home Sales: Despite Falling Sales, Market Remains Undersupplied. “This is better than what we and the consensus forecast expected but, outside of the initial stages of the pandemic, the lowest monthly sales rate since November 2015.”
Moody added that the decline in inventories in August isn’t surprising, given this is the part of the year in which inventories typically begin to fall.
“What is notable is that the increases seen in the spring and early summer months were larger than is typical for those months, as if sellers were rushing to list homes before the worst of the bite from higher mortgage rates was felt,” Moody said.
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