Rising mortgage rates won't impact home sales

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Real Estate

SANTA ANA, Calif. – May 23, 2018 – A study suggests that the real estate market is underperforming currently and, as a result, won't feel an impact any time soon from rising mortgage rates.

First American Financial Corporation – a global provider of title insurance, settlement services and risk solutions for real estate – released its proprietary Potential Home Sales Model for the month of April 2018. From a real estate market perspective, the model found that today's market continues to underperform, and suggests that continued high demand with tight inventory will offset the number of buyers who may be pushed out of the market as mortgage rates continue to rise.

"Currently, potential existing-home sales is 1.29 million, or 17.7 percent below the pre-recession peak of market potential, which occurred in July 2005," the study found, and as a result, "the market for existing-home sales is underperforming its potential by 6.5 percent or an estimated 392,000 sales."

"In April, the housing market continued to underperform its potential," says Mark Fleming, chief economist at First American. "Existing-home sales were 6.5 percent below the market's potential for existing-home sales, according to our Potential Home Sales Model. Lack of supply remains the primary culprit. The inventory of homes for sale in most markets remains historically low, yet demand continues to rise as millennials further age into homeownership."

Rising rates will lock more current owners into homes

"One reason housing supply remains limited is because the majority of existing homeowners have 30-year, fixed-rate mortgages with historically low rates," adds Fleming. "Now that rates are rising, they are hesitant to sell their homes because there is less incentive … If they sell, they would lose the low mortgage rate they currently have and replace it with a higher rate and a more expensive monthly loan payment.

"As mortgage rates rise further, more existing homeowners will become rate-locked into their current homes.

Given April's average fixed-mortgage rate of 4.47 percent, Fleming says the "market potential for existing-home sales at a seasonally adjusted annualized rate (SAAR) is 5.99 million." However, current estimates for April have sales at 5.60 million, "so the market is underperforming its potential by an estimated 392,000 (SAAR) sales."

25 or 50 basis-point increases have little impact on market potential

"According to our Potential Home Sales Model, if the 30-year, fixed-rate mortgage increases another 25 basis points, market potential for existing-home sales would fall by 11,500 sales," Fleming says. But "if the mortgage rate increased by 50 basis points, the market potential for existing-home sales would fall by 23,000 sales. While both increased-rate scenarios reduce the market potential for existing-home sales, the reduction is small compared with the overall market potential for existing-home sales – almost 6 million."

Fleming thinks it's a mistake to look only at rising interest rates when projecting what will happen to the overall U.S. housing market.

"Understanding the resiliency of the housing market … puts the likely rise in mortgage rates into perspective – they are unlikely to materially impact the housing market," says Fleming. "The healthy economy encourages more homeownership demand and spurs household income growth, which increases consumer house-buying power.

"Mortgage rates are on the rise because of a stronger economy and our housing market is well positioned to adapt."