The housing market is in a pickle.
Long-term and short-term trends have converged and while it hasn’t caused disaster for American homeowners yet, it certainly has made movement a lot harder.
Mark Fleming, an economist at First American Financial Corporation, compares the number of homes sold on an annual basis against what should be sold. Fleming uses indicators such as the state of the labour market, interest rates, and wages to make the determination. According to Fleming there is a significant disconnect between these two numbers.
“Right now there is a potential sales shortfall,” Fleming told Business Insider. “We’re under-potential by about 400,000 home sales a year.”
Part of this is due to the under-building of homes, especially on the lower end, as we’ve previously noted. Fleming, whose firm offers title insurance and settlement solutions for real estate, said that the bulk of the issue does not just come from this long-run issue but it comes from existing home sales.
“Most of the homes offered for sale are not offered by a builder, they’re offered by an existing homeowner,” he said. “That existing homeowner, before he makes the decision to sell, has to make the decision to buy. I call it the duality of the housing market. He makes his buy and sell decisions together.”
This duality leads to two problems according to Fleming, one of those being the inventory problem we’ve pointed to and one being financial. Here’s Fleming’s breakdown (emphasis ours):
Why sell your home and buy a home when one, there’s not a lot of choices in a home to buy — a little bit of a chicken and an egg problem there — but right now there’s so little inventory to choose from. Secondly, a majority of existing homeowners have a mortgage rate of 4.5% or less. There’s very little financial incentive because all I have is a big lump of transaction costs to move.
Whereas in times past, the move up process was incentivized by the long-run trend in falling interest rates. Every three to four years, interest rates were lower than they were a few years ago and so yeah sure, I’ll move, because I can by my proverbial ‘own home’ back at less monthly cost because rates are lower. There’s no incentive for that, rates have hobbled at 4% or less than 4% for almost 2 years now, 80% roughly have a mortgage rate at 4.5% or so. I don’t see the financial benefit to moving if it’s going to cost my 6% commission and moving fees.
Let’s unpack that for a second. Essentially, with interest rates from the Federal Reserve so low, banks have slashed the cost of mortgages in order to compete for business. Now that these mortgage rates are so low, there’s not much more banks can do to incentivise people out of their home. Add in the cost (and let’s be honest, the hassle) of moving and there seems to be a disincentive to do anything.
There are also demographic problems holding the housing market from breaking out, said Fleming. From the retirement of baby boomers to millennial buying not picking up, these long-run issues are weighing down the market’s potential as well.
There are, of course, other factors that influence housing movement choices (Fleming himself admitted that as much) including job moves and family moves, but the shortfall in American moving from home to home seems to have a lot to do with the financial calculus and the Fed.