The housing market is heating up and simultaneous cooling, depending on the respective data. Who is telling the truth Actually, maybe everyone …
After the appreciation of the home price is the market on fire. FHFA and Case Shiller (2 of the top property price reports we follow – both updated this week) differ slightly in their historical measurements, but both agree that year-over-year price increases are as high as they have been for a long time (record highs for FHFA ).
Things move in the other Direction for Home Selling. This week’s release of Pending Home Sales showed a decline of more than 10% (back to pre-pandemic levels).
In order to who lies Is the real estate market hot due to rising prices or is it cooling down due to declining sales?
The two may actually coexist due to INVENTORYor lack thereof. In addition to the obvious constraints on home sales, tight inventory can also drive prices up as more buyers compete for less property. It’s never been as tight as it is now.
The inventory situation may mean that prices in the current real estate cycle remain more stable despite the recent rise in interest rates. Even then, previous examples of rate hikes had only modest effects on housing construction. Using the same home sales data from above, let’s highlight previous rate hikes so we can see the impact …
… and prices (this is the same FHFA home price data, but the chart is enlarged to show more detailed details).
At the end of 2016 there was a big rise in interest rates no noticeable effect on prices. This is remarkable in that this rate hike was triggered by economic optimism, in contrast to the 2013 rate hike that came after the Fed announced it was cutting its rate-friendly bond-buying program. 2018 was somewhat similar as the Fed continued to tighten monetary policy and raise short-term interest rates.
It could happen that the current rate hike shares some Similarities to 2016. The path of 10-year government bond yields (a measure of longer-term interest rates like mortgages) has largely followed the progress of the pandemic and hopes for an economic recovery. Returns (aka rates) rose late last summer as vaccine trials showed promising results and economic data began to improve.
The prices rose faster in the new year when the vaccine logistics were ramped up and the law was passed to discharge. Household spending hurts interest rates both because of its positive impact on the economy (a stronger economy supports higher interest rates) and because of the impact of more US Treasury bond issuance (more government bond supply = lower bond prices = higher bond yields = higher interest rates).
We have devoted many previous newsletters to discussing the subject separate between mortgage rates and treasury returns. The connection is largely restored and once again it makes sense to view treasury trends as the best early indicator of possible momentum shifts. With that in mind, the current 1.6-1.75 zone in 10-year Treasury yields is important. There have been two solid bounces at or near 1.75, but not enough rebound to guarantee a momentum shift.
If 1.75% are decisively broken and the unfriendly trend remains intact, this would lead to the “red“Scenario below. The green A scenario is also possible, but would require an unforeseen shock (something like a new variant of Covid unresponsive to vaccines or the rapid realization of a weaker post-Covid economy).
Is it realistic so that the red line rises by 2.4%? History suggests that there is a great deal in the playbook. Each overlay is exactly the same size and covers exactly 1.9%.
Where would the mortgage rates be if the yields rose to 2.4% for 10 years? A safe bet would be to be accepted at least 4.00% for a 30 year fix based on the typical distance between the two over time.
And what about the swift realization of a negative economic shock? Things can always change in the future, but if this week’s economic data is any indication, negative shocks would be one big order. Here are some highlights:
Consumer confidence rose far up its previous post-covid highs.
The most widely used measurement of the manufacturing sector (ISM Purchasing Managers Index) peaked best level since 1983!
And the report on large jobs was strong on several levels. While there is still a 9 million job shortage, the economy created nearly a million jobs last month.
The average work week rose to 34.9 hours. That might not sound like much to those who work full-time, but before Covid it was never higher than 34.6. These 0.3 additional hours correspond to more than a million additional jobs that could now return to the world of work.
Bottom lineFor the time being, it is an environment with rising interest rates. Unless we see negative events for the economy, interest rates will eventually run out of steam for other reasons. This could take some time, however, and the general rise in interest rates could keep up with the worst examples in the past if it has fully reached its course.
The week ahead is an easy one in terms of planned dates and events, but it provides an important opportunity for interest rate watchers to observe the underlying dynamics in the bond market. A strong defense of the 1.75% cap on 10-year returns would go a long way towards a 10-year period Consolidation for rates (as opposed to a relentless move higher).