In June 2022, the national median existing-home price for reached a new high of $416,000.00. In January 2023, the median home sales price was $359,000.00, down $57,000.00 in a 6 month period. Data on the housing market is indicating that we are in a recession. Building permits are down, sales of new homes have fallen, the sales of existing homes have declined and days on market (DOM) is increasing. Should we be bracing for a repeat of the Great Recession where a plethora of foreclosures and short sales dominated the real estate market? 

The Fed raised the federal funds rate eight times in the past year. These increases have drastically affected  mortgage interest rates. According to Mortgage News Daily, on February 25, 2022, a 30 year - fixed mortgage rate was 4.18%. One year later, the same 30 year fixed mortgage rate is 6.88% and rising. Increased interest rates means buyers can no longer afford the same sized loans. Since 2021, interest charges on a median-priced home have risen so much that the monthly payment on the same mortgage has roughly doubled. Additionally, the massive home price increase since 2021, has priced out many buyers. Interest rate increases combined with home -price appreciation has reduced home ownership affordability to its lowest level in 16 years. 

In a nutshell, too many homes are too unaffordable for too many people at today’s prices. Therefore, home prices are expected to fall. 

What does this mean for those with Adjustable Rate Mortgage (ARM)  loans. The increase in interest rates is a pending disaster for these people. There is an increasing number of people who gambled when the rates were low and opted for an ARM loan instead of a 30 year-fixed loan because the initial rate was lower. Combining higher interest rates with declining home prices, overleveraged individuals may find themselves completely underwater because they did not put enough money down on their home. They will end up owing more money than what their home is worth and their monthly mortgage payment will explode once the rate adjustment begins. 

The Fed’s interest rate regime can significantly impact the real estate industry. First, they artificially reduced interest rates after the Great Recession, and now they are raising rates to combat inflation, resulting in a volatile market. Investors are not experiencing the expected returns on existing deals and are faced with a hindered ability to project cash flow accurately on new deals. On the bright side, the tight labor market will help sustain demand for space against a fixed supply, despite a recession. This may be a painful adjustment for real estate investors and homeowners. At the same time, this could also lead to more predictability in the market as we settle into the “new normal” of the housing market. 

There is truth to the saying, “What Goes Up, Must Come Down.” Real Estate has been at an out of control “high” for a while, it was just a matter of time before the decline. The downturn has begun, and it will continue to fall unless the Fed changes their tune. Be on the lookout for the “bottom” of the market. It may take a while, but it will land there. Be ready to take advantage of the downturn, because everything is cyclical and it will eventually go back up again. 

Tickers to consider:  CEI &  MARK

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