The Housing Market Has Experienced a Major Shift

October 15, 2022

This is a graph based on the Case-Shiller Index of home prices in the United States for the past 12 months.

Case-Shiller Index 12 Months

The index fell slightly for the first time in 45 months, since January 2019!

What’s causing this decline in home prices? The causes are complex, in part because the price changes in the different segments of the housing market (geographic location, price points, home types, etc.) are not uniform. In fact, in some segments, home prices are still going up.

But in general, this recent concavity in home prices, based on the broad average of home prices across the U.S., is driven by several key factors.

First, and probably most importantly, the higher interest rate.

In response to the fears of a rising and potentially long-term inflation, the Fed raised the interest rate five times, since March 17, 2022.

As a result of this contractionary monetary policy, mortgage interest rates took a hike uphill. The 30-year fixed mortgage interest rate rose from an historic low of 2.65% on January 7th,2021, to 6.92% on Oct 13th, 2022.

The higher mortgage rates are making home buying a lot more expensive for most folks. Some people can’t even qualify for a loan anymore. And those who do, can afford a far smaller home than they hoped for when the rates were lower.

For example, at the 2.65% interest rate (and assuming 20% down, property taxes $500, insurance $300, & HOA $300), a family looking to keep their monthly PITIA (principal, interest, taxes, insurance, and association dues) at $2,700 could afford to buy a house for $500,000. But now, at the higher 6.92% interest rate, with these same assumptions and PITIA, this same family can only afford a house for $350,000. (All calculations are approximate and are based on Nerdwallet & Bankrate Mortgage Calculators).  

By the way, while this absolutely is a massive change, historically the 6.92% is not crazy high. Actually, historically, 2.65% is crazy low! The weekly average, based on Freddie Mac data on all weekly 30-year fixed rates going back to 1971, is 7.76%.

Average 30-year mortgage rate

But then again, a 150% hike in the interest rates, in a matter of just a few months, is not at all pleasant.

Before we go on to the second reason for the drop in home prices, let’s digress for a second and talk about the inflation and the Fed’s response.

First, given the latest move by OPEC to restrict the production of oil, which will add more fuel (pun intended) to the inflation, the Fed may have to tighten the money supply even more. The Fed’s aggressive stance on the inflation is, on the one hand, understandable. It wants to send the message to the public that it will do whatever it takes to rein in the inflation and thwart the self-fulfilling inflationary spiral.

On the other hand, this policy will cause pain.

Jerome Powell "I wish there was a painless way to do that. There isn't"

And the question is: Does it have to be this much pain? The 3-percentage points increase within 6 months is a lot of monetary tightening. And the inflation is likely the result of global disruptions, including in commodities due to the war in Ukraine, rather than due to the overheated labor market. Prices in many sectors, including housing, came down or slowed down.

So, brace for a painful couple of years. Read up on the Sacrifice Ratio and Rational Expectations, if you want to delve deeper into macroeconomics.

The second reason for the falling home prices is that the pandemic that fed the stratospheric rise in home prices, due to (i) the internal migration and demographic shifts, work-at-home, saved cash, and colossal stimuli) is over.

Biden: "The Pandemic is Over"

Well, kind of...

Jean-Pierre: "COVID remains a problem."

And as a result, the massive surge in the demand for homes also over.

And third, the economic uncertainly in wealth, income and employment is just bound to cause some gloom of pessimistic expectations, and that (expectations, that is), can be a powerful killjoy of the home-shopping mood.

Index of Consumer Sentiment

To dive deeper, let’s look at more refined granular real estate data on housing in Palm Beach County, Florida.

1. Price Trends

The median price of single-family residences in the Palm Beaches is down from a peak of $675K in June of this year to $623K by the end of September. That’s a drop of 8.3%! Townhome prices fell from a high of $410K in May to $380K, also almost 8%. Condos plummeted 14.5% from the high of $380K in April to $331K in September.

Median Home Prices in Palm Beach County

2. Days on the Market

Days on the market is a great indicator of the market’s hotness. In the froth of the feverish housing market of a few months ago, many homes were getting under contract within hours!

Days on the Market

The median days on the market bottomed out in February-March of 2022 at just 5 days! That’s 1/8th of the long-term average of 40 days that it took for a typical home to sell. Those sweet days for home sellers and their agents are over. By the end of September, the effort to sell a house, at least by this measure, almost quadrupled to 19 days.

3. Percent of Homes Sold Above List Price

The following chart too shows that for home sellers the awesomeness of having flocks of home buyers fight it out with tens and even hundreds of thousands of dollars above list price is over. The share of listings closing above the asking price, has dropped, from 54% in the spring of this year, down to the top of the normal range today.

% of Homes Sold above List Price

4. Percent of Cash Purchases

This graph isn’t as dramatic as the previous ones but still… there is a bit of a drop in the amount of cash used in buying areal estate property.

Cash Purchases as % of All Home Sales

5. Percent of Listings that Lowed the Price

And finally, how many home sellers had to takeoff their rose-colored glasses and lower their list price (and kick themselves for missing the train selling opportunity and of a family vacation in Europe)?

Percent Lowered Price

Just 6 months ago, 95% of sellers didn’t even bother reducing their already bloated, and maybe a little hubristic, list price. But now 39% (that’s 8 times the difference!) of listings had agents do the tough job of convincing their clients to revise the price down.

So, there you have it. Both broad national indices, and a close examination of local data, show that the housing market is now experiencing a downturn. How deep and how long will this last? I’ll be posting regular monthly updates, so if you want to stay in the know, subscribe to our monthly market updates.

© This article is copyrighted by Kana Nur-tegin. All rights reserved.