Friday, March 2, 2018

Time to Revisit Interest Rates

I have been warning of rising rates for several years and the Fed tried to keep a lid on rates to help the economy. The economy is now moving very well. Strong enough that inflation worries have now replaced economic worries. This has led to actual treasury bill increases and a strong tug on rates is underway. There has been a slow but steady increase in mortgage rates since late last fall and this is expected to continue.

 Many buyers are still trying to find a house they can afford. I can't help but notice that some buyers remain hesitant to buy a house and often over a trivial matter. That is all fine and well but the train is leaving the station, and some will be left standing on the platform.

Here is the deal. The rise in rates has been slow and steady. It isn't enough to turn the market around and cause prices to fall. It is however enough to slow the rate of price growth. Most analysts are predicting a much more modest gain in pricing in 2018 than we had in both 2016 and 17. But prices are still expected to rise and more importantly the cost of borrowing money will go up. Borrowing is a much larger burden than price.

Let's look at a scenario. Sally and Bob get approved for a loan in February for $300,000. The loan officer has qualified them based on their income and debt load. Let's say that they have an income of $5,000 per month. So they qualify for $1450 a month plus taxes and insurance at 4%. Now let's say rates continue to rise at their current pace. By May they will no longer be able to get 4%. Now rates are at 4.5% Now the PI payment is $1520. They will have to come in with extra cash to "buy down" the rate or settle for less house. But the homes are a little more money now. So prices have risen by 1% and their borrowing power has dropped to $282,500. So the house went up $3000 and the loan went down $17,500. They have literally lost $20,000 in buying power in couple of months.

This is the scenario that is building into the market now. Buyers are not the only ones that need to be concerned. Sellers looking to sell the current house and buy another one may find themselves in a pickle if they keep waiting to sell their house. Inventory is squeaky tight right now and buyers are ready to snatch up seller's listings, yet sellers are sitting on the hands. Meanwhile, what ever house the seller plans to buy after finally selling their current house, will end up costing them more in the form of higher rates.

Cash buyers are of course somewhat immune to the interest rate issue. In fact rising rates help the cash buyer as it tend to slow down the rate of growth in pricing. Steep increases in mortgage rates can lead to lower housing prices.

Interest rates are far more destructive to buyers than price. Keep that in mind as we watch rates start to move up towards the more typical 5-6%. Rates have been at or near historic lows for the last 8 years and things are beginning to return to normal. 

No comments:

Post a Comment