Mortgage rate impacts update: Not yet onerous - by Daniel Calano

July 13, 2018 - Appraisal & Consulting
Daniel Calano
Prospectus, LLC

About a year ago, I wrote an article explaining that, although short term interest rates were being increased by the Federal Reserve, it would not dampen demand for housing as generally expected. Part of my reasoning had to do with easier lending practice; part with consumer confidence; part with an increasing stock market. Most importantly, increase in rates meant the Fed was seeing signs of inflation, which (if modest), meant increasing employment, increasing salaries. Thus, the consensus was that while the borrowing cost of housing might go up, so would the ability to pay.

Time for an update. At this point, there have been seven rate hikes by the Federal Reserve since it began tightening in December, 2015. The most recent one was a few weeks ago. The plan of the Fed was to make very small hikes, with plenty of notice, that could be absorbed relatively easily without any shock to the marketplace. This has been a very successful strategy. Remember, many wanted the Fed to start raising rates because markets were being distorted, with no rate hikes for years even though the economy had been steadily improving. It signaled that the Fed did not yet have confidence the economy. So, in 2015 when the Fed finally started to start hiking, it was seen as a positive step. 

This is still the prevailing perception within the market. A recent statement by the National Association of Realtors agreed that “a slow and steady rise in mortgage rates alone, such as what we are seeing now, won’t be enough to impact housing prices”. However, it went on to say that, “all things considered, if you have rising mortgage rates over a longer period of time, then you will see weaker demand, especially in the lower end of the market.” The Feds balancing act is to keep the economy going, without raising rates too quickly, but without letting inflation gain a toe-hold, driving up prices, and potentially pushing the economy back into recession. As a result, in addition to the seven rate increases thus far, officials project three more raises in 2019 and one or two in 2020. 

While the Fed policy seems to have been spot on, there are a few signs that rates are beginning to impact housing purchase demand, particularly in lower ranges, where first time buyers, for example, can be extremely monthly payment sensitive. Mortgage applications since 2010 have been strong, until more recently in 2016, when there has been some flattening. Recently, mortgage application in the United States decreased by 4.9% in the recent week ending June 22nd. Also, residential sales are 3% below last year and have slid for three months in a row. But just when you think there’s a trend, things can change for the opposite. The average interest rate for a thirty year fixed rate conforming mortgage had increased from 4.75% to 4.83% recently. Right after, the 30 year fixed rate fell to 4.7%. Hard to predict.

Also, as an interesting sidebar, the level of multi-family mortgage debt increased by $44 billion in the first quarter of 2018, as compared to a much lower increase over the 4th quarter of 2017. It’s clear multi-family investors aren’t impacted negatively. Construction and financing of apartments continue as an alternative to residential buyers, who may be impacted by the increase in residential mortgage rates. 

Concluding, there is a fairly direct correlation between the Fed rate and ultimately long term mortgage rates. As a result, mortgage rates have gone up at least 1% in the recent year. Yet, not all people are impacted in lockstep as the Federal Reserve continues to increase the inter-bank lending rate. On the house side, It is important to watch the trend of mortgage applications to see if they are impacted by the rate change. On the multi-family side, with financing increasing, it would indicate that investors/developers continue to see a strong rental market, even potentially improved by would-be buyers forced out of the market due to higher mortgage rates. None of this signals dramatic change, and the Fed will continue to raise regardless, but these are potential trends worth following. 

Daniel Calano, CRE, is the managing partner and principal of Prospectus, LLC, Cambridge, Mass. 

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