The housing market continues to defy expectations as home prices remain untouched even with mortgage rates inching towards 8% and potential buyers fleeing. This begs the question: When will buying a home become more affordable?
According to Andy Walden, Vice President of Enterprise Research at Intercontinental Exchange (ICE), this is the key query lingering within the housing market today. As mortgage rates rise, the purchasing power of home buyers declines. For instance, someone with a monthly budget of $3,000 could have bought a $595,000 home at the beginning of 2022. However, with the current 30-year fixed mortgage rate at 7.7%, they can now only afford a $419,000 home, based on a recent analysis by real-estate brokerage Redfin.
Consequently, housing affordability hit a 38-year low in September and is currently far from ideal, Walden observed. Rates have dramatically increased from the 3% range to nearly 7.5% in October, according to Freddie Mac data.
From the perspective of a homebuyer, a 1% rise in rates implies a 12% reduction in buying power—an undeniable consequence of the basic principles of mathematics, as Walden emphasized.
Furthermore, home prices have outpaced wage gains in various cities, including Chicago, San Diego, and Miami, according to real-estate data company Attom.
Walden contends that for home prices to align with wages once again, two scenarios need to occur: either prices must decrease or appreciation must significantly slow down—even come to a standstill—allowing incomes to grow and catch up.
Consequently, the U.S. housing market in the coming years will be considered “abnormal,” added Walden.
The 1980s: An Era of Abnormalities
In the late 1970s and early 1980s, during what is now known as the “Volcker era,” the American housing market experienced a significant anomaly. Mortgage rates skyrocketed to an astonishing 18%, leading to a skewed environment that took years to recover from, according to Walden’s analysis. Paul Volcker, the chairman of the Federal Reserve from Aug. 6, 1979, to Aug. 11, 1987, played a crucial role in curbing inflation during this period by raising real interest rates, despite facing substantial criticism.
Echoes of the Past
A recent note by analysts from BofA Global Research suggests that today’s housing market exhibits similarities to the challenging circumstances of the 1980s. Just like during that time, when inflation soared, the Federal Reserve responded by increasing rates. As a result, mortgage rates surged to a staggering 18.6% in 1981, ultimately dealing a blow to the housing market. Interestingly, during the 80s, it was the baby boomers who were in their prime home-buying years. Today, it is the millennials who find themselves in a similar position. However, with interest rates rising for the fourth consecutive week in early October, it remains uncertain if this group will be able to bear the burden of borrowing costs and make homeownership a reality. The analysts caution that favorable demographics alone may not be enough to prop up the market this time around.
Transition into a Challenging Period
The era of anomalies in the 80s was followed by the Great Financial Crisis, fueled by subprime lending practices that led to a crash in home prices. Walden draws parallels between this upcoming period and those tumultuous times. Yet, he emphasizes that despite the similarities, the outcomes are expected to differ significantly. The road to a normal housing market, he predicts, will be a long one, possibly taking several years or even longer. He concludes that this impending blip on the radar will have a lasting impact.
