I recently decided I wanted to shorten my commute and move closer to the office. That started a dip into the insanity known as the real estate market. Like politics, all real estate is local.
When a colleague’s real estate agent wife heard I was looking, she warned that I was getting on the “crazy train”. She nailed it.
My downtown condo was listed for about two weeks and I ended up with competing offers, selling it above the original asking price with no financing contingencies.
A week later, I found myself in a bidding war with two other buyers for a townhome in east Memphis that had been on the market for 24 hours. Another contract above the asking price with no contingencies. “Crazy train”, indeed!
I’m wondering how much track is left under that train. You may have noticed interest rates are on the rise. The rate on the ten-year U.S. Treasury note moved up 1.698% from its 1.359% low set in July 2016 before settling back to just under 3%. And according to the website bankrate.com, the national average rate on a 30-year fixed rate loan is now 4.56%.
Bloomberg
The chart above shows the sales of existing homes on a monthly basis. Sales appear to have peaked and started to roll over. Insufficient data exists to draw a significant statistical conclusion, but there are some numbers that may help you understand what’s going on.
I did some work with Bloomberg’s mortgage payment calculator to look at what an increase in mortgage rates does to a buyer’s monthly payment. For the sake of comparison, I assumed a purchase price of $250,000 with 20%, or $50,000, as a down payment.
As I mentioned earlier, the national average rate today is approximately 4.56%. Let’s assume that two years ago, it was 2.86%. The monthly payment under those circumstances would have been $828.18/month. Now, with the rate up to 4.56%, the payment will work out to $1,020.51, an increase of 23%. No wonder new home sales are slowing down – they are not as affordable as they were two years ago.
It is also possible that the increase in rates will create a headwind for prices. If this analysis looked at the purchasing power of $828.18/month, at 2.86% the buyers could afford the $250,000 home. What is the buying power of that $828.18/month if the new cost of money is 4.56%?
It turns out that for $828.15 at 4.56% you can only finance $162,300; if you divide that by 0.8 (assuming the same 20% down payment) you arrive at a maximum purchase price of $202,875. That is 19% less than the $250,000 you could have afforded with rates at 2.86%.
I am not implying that home prices are poised to fall 19%. Nor am I suggesting that in a hot market people won’t spend beyond their budgets. What I am saying is that this local market is getting frothy and I’m not sure that’s sustainable in a rising rate environment. Caveat emptor!
The contents of this article should be used for informational purposes and should not be considered an offer to buy or sell a security or investment in a particular portfolio or strategy. Opinions in this article are subject to change without notice.
