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Key takeaways
Persistently high mortgage rates continue to dampen housing market activity.
Sales of both existing and new homes are lower than year-ago levels.
Performance of the real estate market is lagging other capital market sectors.
“Higher for longer” Federal Reserve (Fed) interest rate policy continues to take a toll on the housing market, which is highly dependent on mortgage borrowing. As 30-year fixed mortgage rates linger near 7%1 and the average U.S. mortgage payment is at an all-time high,2 housing activity remains muted, declining even from lagging levels of the previous year.
The numbers tell the story. In April 2024, existing home sales fell 1.9% compared to March’s already unimpressive pace, and are down nearly 2% from April, 2023.3 At the same time, sales of new homes, which had been on the upswing, reversed course. April 2024 new homes sales were 4.7% lower than the prior month, and 7.7% lower than during the same month one year earlier.4
Although potential home buyers and sellers came into the year with a sense of optimism that the interest rate environment would improve, that hasn’t yet been the case. Entering 2024, the Fed indicated it was through with what proved to be a significant series of federal funds target interest rate hikes (moving from near 0% to more than 5% in 2022 and 2023). Those rate hikes were implemented with the goal of tempering an inflation spike. Mortgage rates moved up as the Fed bumped the target fed funds rate higher. The Fed projected rate cuts to begin in 2024. However, lingering inflation, still above 3%, has tempered rate cut expectations for now. Mortgage rates trended higher in 2024’s opening months, only recently dropping below 7%.1
An altered landscape forces homebuyer adjustments
“The biggest changes to the housing market landscape have already happened,” says Rob Haworth, senior investment strategy director at U.S. Bank Wealth Management. “With the Fed apparently done raising rates for now, a degree of uncertainty is removed from the market.” Haworth notes that even if rates don’t trend lower anytime soon, those in the home-buying market at least can anticipate that they won’t see another spike in mortgage rates. “That allows people to better plan as they determine what they need to budget for housing costs.” Yet based on the data, potential homebuyers have not yet found a comfort level with the more costly borrowing environment.
“The combination of higher home prices and elevated mortgage rates creates a meaningful headwind for new homebuyers,” says Rob Haworth, senior investment strategy director at U.S. Bank Wealth Management. “They either need to be able to make a bigger down payment or they must earmark more of their monthly budget for housing costs.”
“Today’s mortgage rates reflect higher yields in the bond market, but also a relatively wide premium spread between 10-yearU.S. Treasury notes and mortgage rates,” says Rob Haworth. The spread has recently been nearly twice what it was in early 2022, contributing to more burdensome mortgage rates. “The wider spread between mortgage rates and Treasury rates reflects a lack of buyers for mortgage-backed securities,” says Haworth. “But the yield spread over Treasuries required by mortgage-backed securities buyers has recently declined from mid-2023 peaks.” Haworth notes that the Fed is reducing its own holdings of mortgage-backed securities by $35 billion per month, which might create more pressure on the market and contribute to elevated mortgage rates.
Source: 30-year mortgage rate: Federal Home Loan Mortgage Corporation (Freddie Mac). 10-year Treasury note yield: U.S. Department of the Treasury, Daily Treasury Par Yield Curve Rates, May 23, 2024
Home prices recover
Home prices, like those for any product or service, are driven in large part by supply and demand. After Fed rate hikes began, housing demand dipped and prices followed suit, falling between July 2022 and January 2023. Prices recovered modestly from February through October 2023, when prices in the S&P CoreLogic Case-Shiller 20-City Composite Home Price Index reached new, all-time highs. Home prices as measured by the index then slipped in three consecutive months before recovering again in February 2024, setting new all-time highs in March.5
Source: S&P Dow Jones Indices. Red bars indicate a decline in value from the previous month. As of March 2024.
The combination of elevated prices and stubbornly high mortgage rates has dampened housing market activity. For all of 2023, mortgage applications for home purchases fell to their lowest levels since 1995. The challenges remain evident. In late May 2024, the unadjusted Purchase Index for mortgage applications was 11% lower than the same week a year earlier.6
Lagging activity is attributed in part of the reluctance of existing homeowners to put their properties on the market, letting go of their low interest rate mortgages and having to take out new, more costly mortgages to buy a different property. This results in a much lower inventory of homes for potential buyers. While 2024 existing home sales are on pace to exceed four million,3 new home sales make up far less of the market. New home sales fell to an adjusted annualized rate of 634,000 in April 2024, down from 693,000 in March.4 “Even with new home sales approaching 700,000 per year, that does not fully make up for the shortfall in existing home inventory,” says Haworth.
The average 30-year mortgage rate in the U.S., which was below 3% until late 2021, peaked at 7.79% in late October 2023.7 That represented the highest mortgage rate since November 2000. Rates declined from October’s peaks, down to 6.60% in February, but then moved back above 7% until recently.7 The upturn in mortgage rates appeared to reflect market expectations that the economic environment will delay meaningful Fed interest rate cuts.
Source: Federal Home Loan Mortgage Corporation (Freddie Mac). Data as of May 23, 2024.
The current environment leads to what may be the highest housing costs of all time. According to the residential real estate brokerage firm Redfin, the median monthly mortgage payment in May 2024 (based on average 30-year mortgage rates and home prices) was $2,894, topping an all-time high based on its calculation. It represents a 14% increase in the median mortgage payment from one year prior.2 “The combination of higher home prices and elevated mortgage rates creates a meaningful headwind for new homebuyers,” says Haworth. “They either need to be able to make a bigger down payment or they must earmark more of their monthly budget for housing costs.”
Impact on real estate investing
For those looking to enhance portfolio diversification by including real estate in their asset mix, a commonly used vehicle is a real estate investment trust (REIT). However, as is the case with the housing market, higher interest rates also create headwinds for REITs.
“Although REITs are often considered a way to hedge the risk of higher inflation, the unfavorable interest rate environment has resulted in REITs underperforming other parts of the equity market,” says Tom Hainlin, national investment strategist at U.S. Bank Wealth Management. “Improved yields on U.S. Treasury securities create cash flows that look much more attractive in today’s market when compared to REITs.” As a result, demand for REITs has fallen. Year-to-date through May 24, 2024, REITs are again in negative territory, with the Developed REIT index returning -4.6%, compared to a year-to-date total return of 11.9% for the broader S&P 500. Over the 12-months ending May 24, 2024, the S&P 500 gained 30.9% while the Developed REIT index was up just 8.5%.8
Housing’s economic influence
Fed policy has clearly placed housing and other real estate markets on the front lines of efforts to slow the economy's pace and lower inflation. Thus, regardless of the extent of your real estate holdings, it’s important to keep in mind that the housing market can have a significant impact on the broader economy and capital markets generally. “The formation of households is one of the main drivers of economic growth in the U.S.,” says Hainlin. “It has a large spillover effect on the economy, including materials that go into building or remodeling, and furnishings for homes.”
Be sure to consult with your wealth management professional to determine when and how real estate investments might be a good fit for you.
Frequently asked questions
Housing prices fell over a seven-month period in 2022 and early 2023 and housing demand dropped when mortgage rates first began to rise. However, housing prices recovered to new record levels in late 2023. After declining in three consecutive months in late 2023 and early 2024, housing prices recovered in February 2024 and reached new all-time highs in March.5 As a result, homebuyers have to deal with dual challenges of mortgage rates that are much higher than they were several years ago, and rising home prices.
The decision to purchase a home may depend on many factors, including your own personal priorities and financial situation. Some people may require a larger living space or have a desire to settle in a specific community. Those priorities may take precedence over the current mortgage rate environment. While in an ideal world, mortgage rates would be more affordable, each potential homebuyer must determine the right time to purchase a house.
Interest rates began moving up in 2022, and mortgage rates followed suit. Today’s mortgage rates are more than double the rates that existed in 2021.1 That likely means that homebuyers are required to make higher monthly mortgage payments. This caused some potential homebuyers to step back from the housing market. At the same time, it led some current homeowners who potentially were interested in moving to a different house to hold off doing so, and preserve their current, low mortgage rate. Therefore, housing activity has slowed significantly, attributable primarily to the recent change in the interest rate environment.
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