Myth: The Fed Sets Long-Term (30-Year) Interest Rates.
Fact: The Fed Follows The Market.
Mortgage rates fell 3/8% over the first week of June – even though the Fed didn’t change rates. Similarly, mortgage rates fell a full 1/2% over the first half of May.
Analysts and economists like Jeff Snider and Stephen Hanke frequently remind us that the bond market (which drives interest rates) ultimately “responds to inflation and growth expectations” and not to the Fed.
I frequently see and hear comments about how mortgage rates won’t fall until the Fed decides that they will. But, we have two recent cases where they fell despite the lack of Fed action.
And, when manure really hits the fan, rates will plummet no matter what the Fed does. We saw this play out after the dot-com crash, in the early stages of the 2008 financial crisis, and during the early stages of COVID.
Yes, the Fed lowered rates in response to those crises, but they were largely following the market (and trying to revive the economy).
Austin’s Inventory Surge, Desperate Sellers, and the Solution
Heejin and I looked at homes in Austin, Texas with Heejin’s daughter last weekend – and there was no shortage of inventory.
Supply exceeded demand, prices were falling, and there were some very desperate sellers literally begging us to make offers.
There is one thing though that could instantly change that dynamic: lower rates.
There are tens of thousands of buyers on the sidelines right now solely because rates are too high. As rates fall, we can all rest assured that those buyers will pour back into the market, as there is enormous pent-up demand.
Austin is a microcosm of what will play out in the overall market.
The 3 Forces Battling for the Direction of the Housing Market
While supply and demand will always be the forces impacting home prices, there are three other forces that will drive the supply and demand dynamic.
#1 – Falling Interest Rates
I have mentioned this on numerous occasions, but JVM has a few thousand pre-approved buyers on the sidelines right now because rates are too high. If rates fall even 1%, we will see them swarm back into the market. A larger fall in rates, like David Rosenberg and Stephen Hanke are predicting, will result in a virtual tidal wave of buyers, as pent-up demand, once again, is enormous. This surge in demand could push prices up even higher than they are now – but for factors #2 and #3 below.
#2 – Unlocking Mortgage Rate Lockdowns
If rates fall far enough, the tens of thousands of sellers who refuse to sell because they do not want to give up their 3% mortgages could suddenly find themselves willing to sell – fostering a surge in supply. This problem is particularly acute in CA where mortgage balances tend to be much higher, making rates a much bigger factor. As a reminder though, most of those sellers will also become buyers, so that should prevent the additional supply from becoming a glut as long as rates remain relatively low.
#3 – Unemployment
This is the wild card, as higher unemployment levels can both foster more forced sales and remove buyers from the market. If we have a mild recession with only a marginal increase in unemployment, the impact should not be significant. But, if we see unemployment surge like we saw after 2008 (when unemployment doubled from about 5% to about 10%), the housing market will be adversely impacted no matter how low rates fall. We have in fact seen unemployment impact Austin already, as Austin experienced a larger share of layoffs than many other cities.
Why This Isn’t 2008 Again
And…we won’t see 2008 repeat no matter what happens to unemployment for reasons I have repeated in numerous blogs like this one: This Ain’t 2008.
Among other things:
- The pace of building has been far slower relative to pre-2008 days, so inventory will remain much tighter;
- Homebuying demographics remain at relative highs compared to the trough we saw in 2008 (see 3 Reasons Why Gen X Caused the 2008 Financial Crisis); and
- Equity levels remain at record highs (people are much more likely to walk away from a mortgage when there’s no equity).
