Physicians' Guide to Wealth

A guide for anyone pursuing financial independence

Is Party Over for Real Estate?

Sep 21, 2022

Yesterday the National Association of Housing Builders (NAHB) released its monthly index report on the survey to respondents in their organization on their views of the housing industry. For the ninth consecutive month, the index had declined and is now at its lowest level since May 2020, when the world pandemic was just getting started.

Expanding the history of this index back to 1980, a cycle of the housing index rise and fall is not unusual, with some subsequent declines quite dramatic, as in 1990 and 2008.

The recent decline to 46 is still above the historical mean average and well below all previous peaks.

In this week’s NAHB report, respondents referred to the sharp increase in interest rates, building supply chain disruptions, and still high home prices significantly impacting affordability. Home sale conditions dropped 3% to 54, next six-month sales expectations dropped 1% to 46, and prospective buyers fell 1% to 31. In the report, NAHB Chairman Jerry Konter stated,

“Buyer traffic is weak in many markets as more consumers remain on the sidelines due to high mortgage rates and home prices that are putting a new home purchase out of financial reach for many households,”

This is probably no surprise to anyone watching the housing market or close to anyone trying to buy a house. According to Freddie Mac (Federal Home loan Mortgage Corporation), national 30-year fixed mortgage rates rose to 6.02% on Monday and the highest rate since 2008. The affordability of buying a home continues to increase as mortgage rates rise and home prices remain stable. At some point, the affordability index must decline for new buyers through the function of lower mortgage rates, lower home prices, and/or higher incomes. Mortgage rates will most likely remain in the high 5% to low 6% range as the Federal Reserve is expected to raise the discount rate tomorrow and probably again during their November 2 meeting.

From these reports, it appears new home buyers have significantly slowed their pursuit of a new purchase. They have either been priced out of the homes they were formally qualified to buy or simply want to wait. How much has the rise in mortgage rates changed the cost to own? Below is a summary of two 30-year fixed-rate mortgages of $400,000 based on rates earlier this year and now:

Most people have not received a 47% increase in their income in the past six months, and understandably why the foot traffic to open houses has plummeted.

However, this is not the first- or last-time mortgage rates that will spike due to either fiscal or monetary policies by the government or Federal Reserve. Predictably, the housing market has slowed and caught many developers during unstoppable large-scale new housing projects as the traffic of new home buyers to sales offices, and open houses have declined. The machine of new home projects is hard to stop because construction loans are expensive short-term loans, and paying off the construction loan is primarily from house sales. If house sales are insufficient, the option for the developer is to refinance with a potentially high rate and longer-term loans to wait out the slowdown. The problem here is that these types of bridge loans are expensive and still depend on the ability to sell houses to pay them off. If home sales lag too long and they cannot pay off the loan, then some developers have no choice but to file bankruptcy. Fortunately, this process can take years before the developer is at the end of their options.

The same was true for home buyers during the 2008 housing bust, with monthly payments rising due to variable rate loans increasing with rising rates that exceeded their ability to pay. Millions simply walked away from their homes because they had little to no down payment at risk. Fortunately, most homebuyers since 2010 have locked in sub 4% 30-year fixed rate loans.

Is the housing market in for another free fall of prices or a short pause? Our view is that the chance of a free-falling market is minimal. A plummeting price cycle is due to an abundance of supply with low demand. That occurred from 2005 to 2010, but the same risk is significantly less of homeowners walking away from fixed rate loans they qualified for in recent years. Developers are caught in the crosswinds of a sharp decline in demand as projects move forward, but they also have fixed-rate construction loans. Most of the land for these developments was bought years ago, and most have appreciated in value. The issue is how quickly they can sell enough homes to pay off construction loans or refinance. Our observation is housing developers still have many options to ride out this cycle.

In either case with homeowners and developers, it would appear in the near term a crisis of over-supply and low demand is not at risk. When the Federal Reserve stops its rate hike policy projected by year-end or Q1 2023, the challenge of rising affordability is level off. The decline in sales is impacting mortgage lenders who need to procure new loans and, at some point, will start to lower rates to compete with each other – albeit not at 3%. However, housing prices will most likely slump over the next two to four quarters until the affordability index declines and increases the pool of qualified buyers.

What Does This Mean to Me?

We maintain our favorable view of the US economy and stock market. The housing market will, in our opinion, not experience wild fluctuations in pricing due to the decade's high employment participation rate and low unemployment rate. Households with stable incomes and fixed mortgage payments can pay their bills and avoid the nasty experience of foreclosure or bankruptcy that is detrimental to them and the economy.

However, unreported are the contradictory and counter-productive actions of the Federal government and Federal Reserve. Jerome Powell, Federal Reserve Chairman, is widely expected to raise the discount rate again during this week’s Federal Open Market Committee (FOMC) meeting with the primary rationale to slow inflation. The Federal Reserve is reducing its asset balance sheet and the flow of new funds into the economy to offset the imbalance of monetary supply and demand. The high demand, due to a strong economy, is driving prices up as the largest percentage of workers in this country have money to pay rising prices. The Federal Reserve wants to discourage consumers from spending less, specifically with debt, by raising rates and thus slowing demand. Meanwhile, the Biden Administration signed the “Inflation Reduction Act of 2022,” approving $740 billion in stimulus into the economy funded by debt. While the Federal Reserve is trying to slow inflation by reducing the money supply, the government is adding billions of new funding.

Wall Street evidently had enough as investors sold sharply their stock holdings last Tuesday, dropping the Dow Jones Industrial Average by 1300 points or nearly 4%, and have continued their selling since.

Investors will be adjusting their expectations for the economy and stock market based on tomorrow’s remarks by Jerome Powell. Investors are hoping for some indication of when the Federal Reserve will slow or stop its rate hike policy.

We see the current issues as short-term with short-term impacts on the stock market. We would anticipate a good recovery of this year’s decline once the Federal Reserve announces the change of their rate hike policy and indications of slowing inflation. Meanwhile, the economy continues to hold steady with solid employment data and stable household incomes.

Let us know your thoughts on this Weekly Brief. Call us if you have any questions about your account or financial planning. The opportunities to buy low are at market lows and during corrections. Unfortunately for most, they wait until the market has recovered to start buying and miss terrific opportunities for account gains.




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