Another look at rising interest rates

With Texas seeing the resurgence of a seller’s market the last year, there has been concern over what could stop it. One concern is the ending of rock-bottom interest rates, and how it will impact the real estate market.

We will begin to find out. Last month the nation learned that the days of ridiculously low interest rates, the lowest we have seen in our lifetime, will soon be reaching the end of their rope — and in some ways already have. With the recent strength of buyer demand, rebounding home prices and an easing of the unemployment rate, Federal Reserve Chairman Ben Bernanke disclosed that the time for the Federal Reserve to start pulling back the reins on its massive $85 billion-per-month bond-buying program is nearing. The idea behind the program was to stimulate the economy by buying bonds in the open market in order to depress interest rates, which has been quite effective.

Many questioned the Fed’s methods, and were concerned about the size and scale of the three rounds of Quantitative Easing, the name used to describe the bond buying program. However the Federal Reserve was able to nudge down a broad range of interest rates to extraordinarily levels for a long time.

No one had expected these artificially low rates to last forever, and they had already been rising in the weeks leading up to the Fed’s announcement. Mortgage rates were still hovering at record lows of about 3.5 percent in early May, only to cross the 4 percent threshold a few weeks later for the first time in more than a year. Today, the national average for a 30-year fixed mortgage reached 4.58 percent, according to Bankrate.com, which, in the grand scheme of things, is still well below historical norms. Since last year we have seen an 1.8+/- point increase in mortgage rates, yet sales have continued to improve.

The low rates have enabled qualified home buyers (and owners looking to refinance) to access cheap financing, adding to already-record-high levels of home affordability. It’s helped bolster a surge in both home sales and price increases (since lower rates help make larger principals possible).

We all knew that this day would come, so it is interesting to see the sudden concern over raising rates. All of us knew upward movement of rates has always been inevitable, the news rattled the markets and real estate industry, which has mixed feelings about whether the market is ready for higher rates.

The fear is that higher interest — coupled with rapid home appreciation — will uproot the affordability that has recently been luring buyers back to the housing market in droves. And they may be correct. Austin and Houston consumers have already found themselves in a position where they notice homes are more expensive than what they’re used to or can afford. The other Texas markets have just begun to see the market turn to a seller’s market. We are coming out of the most affordable time of our lives to buy a home.

Let’s suppose a consumer obtains a 30-year fixed loan and puts 20 percent down on a house priced at $170,500, and if they were lucky enough to catch a 3.5 percent interest rate, the monthly mortgage payment would come to $612.50. But at 6 percent, which is closer to historical norms, that monthly bill would jump by more than $200. Remember for every 1% increase in rates, the consumer is able to buy 12% less.

The view of most economists is that today’s rates aren’t sustainable long term and an increase, as long as it’s gradual, should have a minimal impact. More importantly, it will allow private-sector investors to reclaim the mortgage market and have a truer, market-determined mortgage rate without the Federal government’s subsidy.

This analyst’s view is that rates slowly starting to rise are an indicator of a housing sector that is returning to health. Those concerns that demand will suddenly surge from buyers trying to snag low rates while they still can, only to drop off when rates climb past a certain point, are also somewhat blown out of proportion if you look at historical trends.

In our Texas metros, it’s the surge of home prices, not interest rates, that have been the biggest motivation for buyers this past year. After values staying stable over the last five years in most Texas metros, we have seen values rise because of supply and demand. Presently, realtors and buyers biggest concern is locking something down before prices get too high, which has been exceptionally challenging due to the relentless shortage of homes for sale. Multiple offers and bidding wars all are signs of a strong market with great demand and not enough supply.

Let’s answer the original question: will interest rates have an effect on the local housing markets? Absolutely, but we anticipate the impact to be rather small. We don’t think there will be a dramatic impact on the purchase market. People may qualify for less than they would have before, but the demand is still there. Everyone needs shelter. Whether they rent or buy. However most surveys will show that ‘owning a house is the desired avenue’ for most in our country.

We have seen the effects of rising rates before. Home buying and consumer spending slows for a couple of months as the consumer makes up their mind of the need and shock of losing better money rates. Then it picks right back up. If you look at what has happened over the last month, most local realtors have seen a spike in offers as consumers want to buy while rates are still low. Most understand that the ability off rates coming back to record lows is a thing of the past.

Over the last five years, during the recession, nationally incomes plunged right alongside falling home prices. Texas was spared most of this because of great job creation. Most values stayed stable, but there was not great appreciation due to the concern of national growth and ability to recover. However in this last year, prices nationwide have been seeing stronger appreciation, especially in Austin and Houston where demand is up dramatically (over 30% year-over-year in April). Median household income, on the other hand, has remained relatively stagnant at 2008 levels. That’s where low interest rates had been playing such a huge hand, giving consumers more purchasing power for homes they might not have otherwise been able to afford.

With the lack of resale listings in all Texas metros, and the inability of new home starts and rentals to keep up with demand, values will be the major focus of buyers as rates increase. In the next few months because of this, we should continue to see a surge in home sales and demand. As rates increase we will eventually see a slow down as the consumer tries to understand the inability to buy the dream homes they were looking at last year or last week.

Most realtors and consumers are finding that the house or rental they looked at has been put under contract. And this may happen a number of times to them before they secure any shelter in this stronger market. So yes rates will slow us down, but not for long.

The apartment or house you look at today will not be there tomorrow!

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