It Will Take More Than Lower Rates to Fix This

The U.S. housing market is facing a crisis…

Interest rates are soaring. And that makes monthly payments more expensive for homebuyers.

This problem is so bad that lenders are offering adjustable-rate mortgages again. That hasn’t been common practice since 2007…

Lenders are telling homebuyers that rates will come down eventually. And when that happens, homebuyers can refinance into a fixed-rate mortgage.

It seems like interest rates are the ultimate bogeyman these days. We’re blaming just about everything on them.

But the thing is, housing affordability isn’t determined by interest rates alone.

Today, I’ll discuss why it’ll take more than just lower rates to make housing “affordable” again. And until we cross that threshold, the housing market is in for a rough ride.

Let me explain…

First off, interest rates do matter. A homebuyer might be able to afford a 4% mortgage. But they might not be able to afford it if the rate is, say, 6%.

That’s the conventional wisdom. And it’s how most folks frame higher interest rates.

But that argument skips something… It only works if “all else” is equal.

Real life isn’t a lab. All else is rarely equal. And lately, all else has been wildly unequal in the housing market.

The sticker price on a home matters, too. And nearly everyone knows that we’ve seen a lot of price change recently.

All else also includes the buyer’s disposable income…

With a $150,000 income, affording a 4% mortgage on a $400,000 home should be a piece of cake. But it would be out of the question if the buyer’s income is only $60,000.

The National Association of Realtors’ Housing Affordability Index (“HAI”) pulls everything together. It compares the median family income with the income needed to qualify for a standard mortgage on a median-priced single-family home.

The index assumes a 20% down payment and a 30-year mortgage – two common metrics for homebuyers. And it assumes that debt service won’t exceed 25% of household income.

In 2019, the HAI equaled 159.7. That means the typical American family had 59.7% more income than needed. So they would be able to carry a standard mortgage.

But by this past summer, things had changed a lot… Now, the HAI is a skin-of-your-teeth 102.2.

Remember, housing prices have soared, too.

According to the HAI, the median-priced existing single-family home jumped from $274,600 in 2019 to roughly $420,000 this past summer. That’s an increase of more than 50% in three years.

But at the same time, median family income lagged badly. It only rose about 13%.

Make no mistake… 2022 has been brutal for homebuyers.

Interest rates continue to rise. And folks got a double whammy as home prices surged.

Combining rates and sticker prices, the “qualifying income” needed for a standard mortgage soared 77% from 2019 through this past summer. That’s an incredible jump.

Put simply, the Fed isn’t the only problem here.

Fighting inflation will likely make things worse, too. That weighs on disposable income.

In other words, the typical American family is facing an uphill battle in the housing market. And that will likely be the case for at least a few years as these problems continue.

It’s no wonder real estate is the Power Gauge’s most hated sector today. You’ll want to steer clear of this space until we see a dramatic change.

Good investing,

Marc Gerstein

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