Planning Your Mortgage Strategy
December 14, 2022
As the year winds down, it’s as good a time as any to think about the one ahead. We’ll take a brief look at the housing market and a theme that has the possibility of shaking up the financial landscape in 2023 and in the years beyond. The presentation of data and a few new variables may change some of the calculus when it comes to how your credit union approaches the housing market. We’ll share a few interesting data points in the hopes that it gets you thinking.
The first concept worth considering is that of the housing supply, which is best shown through inventory. The chart below illustrates a 25-year snapshot of home inventories.
United States Total Housing Inventory (Thousands)
The clear, observable trend is the large decline in home inventories between 2007 and today. Numerically, this translates to about a 75% decline in the number of active home listings in a span of 15 years. A broad decline in inventories will begin to present problems should demand begin to outpace supply.
A key underlying concept (in the housing supply/demand dynamic) is that the number of buyers able to afford homes typically rises and falls in an inverse manner with the 30-year mortgage rate. There are more buyers when rates are low and significantly less when rates are high. However, this concept may not matter as much should there be only a small, finite number of homes to fight for.
Inventories can change for a couple of reasons - either homeowners sell their homes or construction companies build and list new ones on the market. Firstly, the chart below showcases existing home sales. The focal point of the chart is the sharp decline between 2021 and 2022 - suggesting that home sales have sharply declined in recent history.
United States Existing Home Sales (Thousands)
Secondly, the chart below illustrates construction. As it stands today, construction is roughly 60% of what it was in 2007, the year in which housing starts and building permits peaked. The gap between then and now is significant, especially when considering that the United States population has grown 10.39% since 2007. There is also an observable decline in starts and permits between 2021 and 2022. Market headwinds and high building costs are likely the primary contributors.
United States Housing Starts and Building Permits (Thousands)
To distill this one step further, both home sales and construction have trended negatively over the past year. The combination of the two will inherently force inventories lower in the short and intermediate term. The trend won’t be able to reverse until owners start putting their homes on the market, or until construction ramps back up.
How many homes need to be built?
There is an estimated need for well over one million new homes a year to be built, for a decade into the future, just to keep pace with expected new family formation. To make up for the lack of home construction over the past decade (see the earlier housing starts and permits chart), it would be of necessity to build more than two million homes per year. (1)
The next question revolved around demand - who is and will be buying homes? We’ve seen a demographic surge in new family formation due to millennials now having kids, and the nationwide inter-state migration boom that took form during the pandemic. Individuals and families found reprieve by migrating from high-tax to low-tax states, leaving high-crime areas, and settling in places that were more conducive to the work-from-home environment - see the spike in existing home sales in 2020 on the earlier corresponding chart. This behavior hasn’t completely subsided.
Demographics play a truly important role when it comes to thinking about what demand might look like in the near and intermediate future. On average, individuals first buy homes around age 33. Consider the demographic analysis chart below - the blue section would be the group who are statistically likely to buy homes in the next couple of years.
It’s also worth noting the national population growth - shown in the next chart. Linear growth on a long-term scale hints at long-term demand.
United States Population (Million)
Two key determinants of demand drive the next part of the potential and current demand analysis - the price of the goods and the income of the buyers. Home prices are still objectively high and individual incomes have been tempered by high inflation.
The chart below shows the average price of a single family home in the United States over the past 25 years. The trend here is quite apparent as well - home prices have continued to work their way higher before briefly pulling back over the last calendar year.
United States Single Family Home Prices (USD)
Affordability is further complicated by 30-year mortgage rates. As mentioned earlier, the number of buyers able to afford homes typically rises and falls inversely with the 30-year mortgage rate. We’ll showcase the 30-year mortgage rate below.
United States 30-Year Mortgage Rate (Percent)
Given how high the rates are, one might quickly assume that home buying would be largely out of reach of many - more so given the impact of high inflation on income. If financial situations are precarious - why might someone go out and buy a house?
The answers to this question are relatively simple - high taxes, crime, rent inflation, necessity for more square footage for families, among many others. Each has the ability to impact the calculus when deciding whether or not a few hundred dollars a month in added mortgage costs stand in the way of moving out of somewhere unattractive or unaffordable.
Outside research suggests that demand is largely persisting despite the market headwinds. (2) States like Florida and Texas have seen broad increases in home buying activity amidst high rates and prices while more expensive and seemingly unattractive states have seen large declines. This shows the continuance of the pandemic trend - affordable and attractive areas will continue to pique the interest of buyers everywhere.
Are property prices too high?
A common thought is that real estate and home prices are far too high and the market is due for a correction. This may be a completely correct assumption, but it is worth considering one of the previously-mentioned points on supply: a short-term correction in prices won’t inherently impact the intermediate to long-term requirement for more supply.
The correction is seen as inevitable for some - consider how large banks and mortgage lenders are trimming their staffs to weather a downturn. Higher mortgage rates inherently impact the demand from homeowners to refinance their loans, as well as reducing broader purchase activity. Combined with warnings from the Federal Reserve that home prices are highly “susceptible to steep declines after big run-ups in recent years on the back of ultra-low interest rates,” (3) the elimination of a proportion of mortgage-related jobs is entirely reasonable.
Prices can and may fluctuate in the short term, but the need for supply remains unchanged.
Piecing It All Together
The brief analysis of supply and demand was largely presented in a way that will allow one to draw their own conclusions. However, to further distill, we’ll name some of the major data points below:
Housing inventories have largely been on the decline since 2007.
Existing home sales and new builds/permits have pulled back over the last calendar year.
Between 1-2 million homes should be built per year to keep up with population growth and to make up for the lack of construction over the past decade.
Home buying activity has persisted in areas that are attractive and affordable despite high rates and prices.
Your Mortgage Strategy
How Will Your Credit Union Respond?
The natural response is largely dependent on the conclusions you draw from taking a look at the data and thinking about how deeply involved your credit union already is in the housing market and mortgage business. It may force a few questions:
Should our involvement increase or decrease?
Should our current strategy change in response to the market? If so, how?
If we don’t have a mortgage department, is it worth spinning one up?
If you need help answering these questions, let us know! We’re often called upon by credit union clients to determine how to assess and respond to market opportunity.