One of the most important dominoes in the American economy has begun to crumble. The housing index which calculates prices in 20 different cities suffered the first monthly decline since 2012. Along with this figure, many other indicators which offer a broader view reveal that housing could take a big hit in the United States after years of price hikes that have been intensified by the covid pandemic. Now, drastic rate hikes, inflation and the arrival of a new recession are shaking the foundations of the housing market.
Housing is an asset that is sensitive to changes in interest rates. During the years of expansionary monetary policies (lots of liquidity and low rates), housing became a star asset. However, academic literature reveals that housing prices are affected when interest rates rise. Today, advanced economies find themselves in the midst of one of the fastest rate hike cycles in history. Although the real impact of this rate hike will take six or eight months to fully materialize, there are already many signs of the blow it is having on the real estate market.
For the past few weeks/months, several cracks have appeared in the real estate market. But the housing domino has really started to fall now. This Tuesday’s avalanche of data is very revealing. According to the famous index S&P CoreLogic Case-Shiller of 20 cities, prices suffered the first monthly decline since 2012. While the year-on-year increase is still intense, the slowdown is even more so.
Digging deeper into the data, year-on-year, prices increased nationwide – in the unseasonally adjusted calculation – by 15.8% from July 2021, well below the 18.1% increase in the last month. “July’s report reflects a marked slowdown,” Craig J. Lazzara, managing director of S&P Dow Jones Indices, wrote in a statement with the data update, noting the difference in year-over-year gains. in June and July. “The -2.3% difference between these two rates is the biggest slowdown in the history of the index,” said the expert.
In its seasonally adjusted monthly version, the index fell 0.4% in July, compared to a rise of 0.4% in June. This is the first time since March 2012 that he has fallen. It also slowed, in this seasonally adjusted variant, to 16.1% year-on-year in July, a smaller rise than the previous month’s 18.7%.
Normally, the first dominoes to fall in a situation like this (risk of recession and sharp rise in interest rates) are found in the financial markets. Stocks and bonds have already suffered from changing financial conditions. Now it seems to be the turn of housing. “House prices are usually the last indicator to pull back in a recession, and in fact real prices only started to stabilize in June and after soaring during the pandemic (+25% between February 2020 and June 2022. The combination of rising mortgage rates and property prices has resulted in a recent decline in housing affordability and in the reduction of plans to buy a new house”, they warn of Allianz.
Thus, the economists of Allianz estimate that housing will be one of the main axes which fuel the fire of the recession, since it started from very high levels which can now make the fall more painful: “The price of housing held until now, but it will be the next domino to fall: we hope that contract real estate prices -15% in the next 12 monthswhich will plunge the US economy into a recession in 2023 (-0.7%)”.
The economists of the German insurer explain in their study that “real estate indicators are collapsing in all areas. Housing is one of the most interest rate sensitive sectors, so it is not surprising that the monetary tightening has a rapid and powerful effect on real estate indicators”. The increase in the cost of new mortgages reduces the affordability of buying homes and therefore directly affects the demand for housing: in the last 18 months, the mortgage demand index has fallen to its lowest level in 23 years. Sales of existing and new homes also fell. rapidly since the beginning of this year, reversing the upward trend observed since the end of the 2008 financial crisis (excluding short-lived declines at the height of the pandemic)”.
From JP Morgan, they agree and point to the moves by the Fed, “Fed tightening has been effective in reducing activity in the housing market, which is causing some different real estate indicators to weaken further.” Market interest rates not only reflect changes executed by the Fed, but also quote part of expectations, which drives up the cost of applying for a mortgage.
Mortgage rates are skyrocketing
The data that is still known corresponds to the background reading. The last one was this Wednesday average 30-year mortgage rate updated weekly by the Mortgage Bankers Association (MBA). The reading was 6.52%, highs since 2008, after crossing the milestone of a return to 6% in August. To get an idea of what the tightening of financial conditions undertaken by the Fed has had on the real estate market, it suffices to recall that the rate received by the MBA was 3% at the start of the year.
Another report from the Federal Housing Finance Agency (FHFA for its acronym in English), also published yesterday, showed that house prices fell considerably from June to July. Prices tend to fall during this period, due to the strong seasonality of the real estate market, but the drop was three times greater than the historical average. In annual terms, it went from a growth of 16.3% to a growth of 13.9% in July. On a monthly basis, from 0.1% to -0.6%.
Yes, there was another fact that might surprise you at first, but it also has its logic. New home sales surprised on the upside in August, rising 28.8% to a total of 685,000, the fastest pace of sales since March. Although it may seem shocking at first glance, experts agree that the drop in prices may have helped support home sales, since median new home prices fell 6.3%. Buyers are starting to race to avoid further increases in borrowing costs and take advantage of price cuts by some builders.
The report from the Census Bureau and the Department of Housing and Urban Development, under the Department of Commerce, showed there were 461,000 new homes for sale at the end of the month, the most since March 2008. However , at the current rate of sales are going it would take them 8.1 months to exhaust the supply of new homes, compared to 5.7 months at the start of the year. The study also found that the median sale price for a new home was $436,800. That’s 8% more than a year ago, the smallest increase since November 2020.
“We don’t expect August’s sales pace to continue in the coming months as the latest hike in mortgage interest rates will affect the affordability of home purchases.n a further drop in prices could attract buyersmaintaining a low level of activity,” explains Nancy Vanden Houten, of Oxford Economics. “Given the outlook for a more difficult macroeconomic environment, it is very possible that real estate prices will continue to slow,” says Lazzara, of S&P DJI.
The situation is such that Allianz believes the bank could begin to turn off the tap on mortgage credit in the face of the current economic uncertainty and the risk that borrowers may not be able to repay mortgage credit due to interest rates. students. On the other hand, investment in new housing should also come to a halt, which will cushion the fall in prices to some extent (without new construction, supply is limited to existing housing).
Strong impact on the economy
“Against this backdrop, we expect house price growth to decline at a rapid pace in a short period of time, by 15% year-on-year from May 2022 (the peak) to September 2023, although the decline lower than that seen during the Great Financial Crisis,” say Allianz economists. will erode GDP growthsince construction and real estate services are two important branches of the American economy.
Residential investment has a low impact on GDP. From Allianz, they expect it to fall -6.3% this year and -6.4% next year, but that would only reduce the annual GDP growth. However, real estate services have a much more powerful effect. A reduction in this activity and lower prices can significantly reduce the added value generated by this sector in the economy. According to Allianz calculations, the correction in the housing market could reduce GDP by up to 1.7 percentage points at the start of 2024, increasing the risks of a longer-lasting recession.
All is not catastrophic
Although housing may make the recession worse, this time its impact on the US economy will not be like in 2008, when the housing crash swept away hundreds of thousands of families and the financial sector. Banks and households appear to have sufficient savings and equity reserves to weather the turbulence.
From Allianz they assure that “strong household balance sheets should cushion the blow. Unlike in the mid-2000s, household balance sheets are in better shape: overall debt is much lower relative to income, the average credit quality of this debt is higher (subprime mortgages have fallen), the net worth is very high (reducing the likelihood of large swathes of households falling into negative wealth), and cash balances remain significantly above pre-pandemic levels.