Normalizing home sales: the prescription.
Real estate appreciation is driven by a confluence of factors: supply and demand, demographics, low mortgage rates, location, and property type. In an ideal market, home appreciation and inflation should bare a reasonable nexus. It is a generally accepted industry standard that 4-6 months of inventory is considered a balanced market. In 2019, prior to COVID, the median price of a single-family home in Sarasota County increased 6.4%, and inflation was approximately 2.5%; a differential, subscribed in part to the desirability to live in our corner of paradise. Although home prices appreciated at a rate higher than inflation, it was a good housing market, but not hyper hot like today. Homes sold at 92% of original list price and were on the market for an average of 78 days. Months of inventory based on pended sales averaged 3.9 months.
Since COVID, home prices have appreciated at an unhealthy rate. It is my #1 concern. In October the median sold price was $405,000, up 16.4% from October 2020. The average sold price increased 20.7% to $600,000. Homes will continue to appreciate at unhealthy levels with multiple bids and over list price until inventory and days on the market rise. What’s needed are moderately higher mortgage rates, 3.75% – 4.5%, and as we approach “in-season”, new listings from homeowners who temporarily moved to the sidelines due to COVID related safety concerns.
The Federal Reserve does not directly set mortgage rates. But it does create monetary policies that affect rates. Its actions affect the price of credit, such as increasing the money supply which impacts the mortgage rates that lenders offer borrowers.
In March 2020 the coronavirus disease created a public health crisis and an economic crisis. The Federal Reserve immediately employed emergency powers, embarking on a large-scale program of quantitative easing, and cutting interest rates to zero. Congress passed a bipartisan $900 billion relief package, tacking on a $1.4 trillion catchall spending bill. But more than a year after the recession ended, Congress continues to pursue, and in my view unwisely, trillions of dollars of massive government spending, huge inflationary pressure, and astronomic debt. On November 3, the Federal Reserve finally said it would start tapering its bond purchases, while leaving the federal funds target rate at 0.25%.
The Fed’s position is that elevated levels of inflation, demand for goods and services and supply chain bottlenecks is “transitory”. Its’ been a 10-month mantra, and other than tapering its bond purchases, its’ guidance is that it will not alter its monetary policy until inflation is consistently at or above 2%. But how does one define transitory? How long does it take for transitory to become intransigence? At the end of October, the 12-month inflation rate was 6.2%. That’s the highest rate of inflation in 31 years! On November 3rd the Fed shifted its guidance for 2022 from “transitory” to “expected transitory”. A sign, a slight shift, a repositioning.
Customarily, although not always, mortgage rates move at just under 2X the yield on the 10-year Treasury. On September 22nd of this year, the yield stood at 1.32%, and then, due to inflationary pressures and investor concerns, it began to go higher. On October 22nd it reached 1.68%, then tested a low of 1.45% on November 5, before accelerating to a close on Friday, November 12 at 1.58%. Following its lead, on Friday mortgage rates edged slightly higher to 3.14%.
The only immediate cure to restore housing to a place of normality is higher mortgage rates. We cannot change demographics, the need for housing nor where families choose to live. But rising mortgage rates will taper the rate of appreciation.
It doesn’t take much. An increase in mortgage rates from the current 3.14% to 3.75% or higher will make a difference. Recent history is on our side. In 2019 the average yield on the 10-year Treasury was 2.14% (low 1.47%, high 2.79%), and the average mortgage rate was 3.94% (low 3.61%, high 4.46%). It didn’t stop home prices from appreciating. But it did slow down the rate of appreciation to a manageable 6.4%.
That’s what we need … for the yield on the 10-year Treasury to break 2%. It will move mortgage rates to around 4%. Still historically low, but enough to increase days on the market and inventory levels, minimize multiple bidding wars, realign, normalize housing market conditions.