A 2008-style housing market crash is coming, senior economist warns
- The housing market is beginning to calm down as mortgage rates rise.
- José Torres of Interactive Brokers warns that steep declines in house prices are ahead.
- Torres expects the declines to occur over the coming year.
For José Torres, the dynamics of supply and demand in the housing market are changing in such a way that it creates a perfect recipe for lower house prices.
On the supply side, in order to catch up with the surge in demand during the period of low interest rates since the start of 2020, homebuilders have started building homes across the country at a rapid pace. .
Even though housing starts (marked by the red line below) have started to decline, they remain at high levels.
Home inventory also rose 18.7% year-over-year in June, according to Realtor.com, and is up about 50% year-to-date.
But while the free money environment has helped fuel 41-year inflation rates at 9.1%, the Federal Reserve has also swung to a more hawkish stance this year, nearly doubling mortgage rates. Additionally, average 30-year mortgage rates have climbed to around 5.8% after starting the year at 3.1%, according to data from Freddie Mac.
It’s killing demand.
“A perfect storm is brewing in the real estate market due to nearly decade-long high construction levels and falling demand,” Torres, senior economist at Interactive Brokers, said in a comment Tuesday.
“The home builders said, ‘Damn, we’re making so much money, there’s so much demand, everybody wants a house. Let’s build like crazy,” Torres added in a phone call to Insider on Thursday. “Now the Fed is reversing all of that. [stimulus] because they basically admit, in their minutes and meetings, that they over-stimulated. But all this construction that was beginning, it must end. So it’s the time lag between supply and demand.”
The result, Torres said, will be a significant pullback in home prices. He said he expects median U.S. home prices to fall 25% eventually. That’s how much the US national S&P/Case-Shiller home price index fell during the mid-2000s crisis.
“We’re going to see something very similar to what we saw during the Great Financial Crisis” in terms of falling prices, he said.
He said he expects to see double-digit declines in early 2023 and said the market will bottom when the Fed adopts more dovish policy, which he expects to see between the mid and the end of 2023.
Torres also said he thinks house prices are going to drop so much because the Fed is just beginning its quantitative tightening campaign (the market has already priced that in to some degree, though it remains uncertain how inflation will play out and how much the Fed will be forced to tighten). This means that they have stopped buying new mortgage-backed securities and could start selling them. Right now, they own about a third of the mortgage-backed securities market.
Buyers of mortgage-backed securities essentially lend their money to homebuyers. When there is less market demand for securities – and therefore less liquidity for borrowers – mortgage rates rise.
The central bank bought up the assets at a rate of $40 billion per month.
Another reason Torres is bearish on home prices is that housing affordability has fallen at an unsustainable rate. UBS pointed this out in a recent note, showing that housing affordability is at its lowest level since 2006.
“At this point, housing is unattainable when considering household incomes and individual incomes,” Torres said. “The average monthly payment percentage of household income and individual income is at record highs – similar to levels we saw during the 2008 financial crisis.”
The overall industry tone seemed to turn more bearish in recent months as mortgage rates soared. Redfin CEO Glenn Kelman told CNBC on Tuesday that he sees a tough road ahead for home prices.
“62% of Boise homes have lowered their prices. More than half did so in Salt Lake City and Denver. So I don’t think it will be a soft landing. It will be a very bumpy landing,” Kelman said. .
“The markets that were the hottest fell the most,” he added.
Homebuilder sentiment posted its second worst month in 37 years in June, when housing starts saw their worst month since September. Existing home sales in June were also down 14.2% from June 2021.
The Mortgage Bankers Association said this week that it expects 30-year mortgage rates to stay above 5% through the first half of 2023 and existing home sales to fall 8% this year from 2021.
Still, some don’t see severe price cuts — if any — coming. Morgan Stanley said in a note on Thursday that limited supply in the housing market would support prices.
“Overall, real estate activity continues to weaken as pressures on affordability, rising inflation and rising mortgage rates weigh on real estate activity. Our economists have explained how demand Housing stock has started to decline and is expected to continue to weaken due to housing shortages and rising Despite weaker activity, tighter supply is expected to keep house prices high” , the bank said.
Redfin chief economist Daryl Fairweather told Insider earlier in July that she doesn’t expect more than a 4% decline in a recessionary scenario due to limited supply.
But the extent to which the dynamics of supply and demand influence the evolution of house prices in the coming months is the subject of debate. For example, the Federal Reserve released a research paper in June showing that price gains over the past two years have been driven by demand thanks to low interest rates.