Home Prices Reach Record Levels Despite Affordability Challenges

Despite layers of affordability challenges, the S&P CoreLogic Case-Shiller Index confirmed the resiliency of housing prices yesterday with 6 of 10 major markets setting all-time records and November posting the largest year over year gain for 2023.

In contrast to Covid-era trends, midwestern markets are sharing the spotlight with warmer regions that benefited from unprecedented mitigation during the remote work revolution. Detroit led the nation in price growth with a staggerring 8.2% increase followed closely by San Diego at 8.0%. Cleveland and New York set new price records along with Miami, Tampa, Atlanta and Charlotte, regions seen more commonly as price leaders in previous years. The national composite reported a 5.1% gain with only Portland reporting a year over year decrease.

On a monthly basis, price growth decelerated slightly in November, with raw data reflecting a .2% decrease both nationally and in the 20 city composite. The seasonally adjusted figures account for the expected holiday downturn and reflect a sustained price growth of .2% nationally and the 10 city index.

These record setting prices come during a time of unprecedented affordability challenges for most buyers. The 30 year fixed rate mortgage was offered at levels above 8.0% for most of October, the month when many of the real properties were placed in escrow.

Buyers haven't faced borrowing costs at this level in over two decades, last seen in a previous era when many first time buyers were still years away from their first thought of home ownership. The psychological impact of borrowing costs at this level is profound in its own merit. In recent years prospective buyers have prepared budgets anticipating rates below 5% which we as a county have come to expect over the past decade. Revisiting that budget with a housing payment based on prevailing terms comes with daunting realities of the sacrifice necessary to achieve the dream of homeownership in today's market.

In addition, home insurance costs have doubled or worse in two of the top ten markets in recent years. Home insurance is a necessary expense required by lenders to qualify for financing. The cost is included in the maximum payment a lender will approve when underwriting the loan for a potential buyer. This combined with record high finance costs creates a substantial hurdle in terms of qualification. For many the combined costs create a price ceiling insufficient to satisfy the sellers expectations.

Remaining cognizant of these factors, one can understand how achieving record setting home prices is a testament to the resiliency of today's real estate market.

Onlookers who purchased their home in previous eras are surprised by the current trend after expecting a downward price correction. The sustained upward price movement confirmed in the most recent report defies what buyers of previous generations experienced. Most recently the crash of real estate prices in 2008 following several years of white hot appreciation causing a bubble effect in prices. The crash occurred in tandem with the systemic collapse of the subprime mortgage market after the absence of regulatory requirements combined with irresponsible practices to fuel growth well beyond sustainable levels. The result stripped equity from millions of homeowners at best and forced millions more into foreclosure. After devastating less affluent communities and burying responsible property owners in negative equity for the subsequent decade, it is reasonable to understand how this "what goes up must come down" psychology persists.

While the rationale of those surviving the preceding crash is understandable, the mechanics of the current market and external economic pressures are vastly different.

The economic policies enacted during the Covid era drove mortgage prices down to historic, once in a lifetime levels, providing buyers with fixed rate financing in the 2-3% range. While the policies were effective at stimulating growth during a period of uncertainty, housing markets across the county saw levels of growth reminiscent of the era preceding the 2008 collapse. Several economists have been cited claiming the policy was left unchanged for an unnecessary duration. The resulting effect was an over-stimulated demand that brought home prices to the current record levels and gave birth to inflationary price pressure sparking comparisons to the late 1970s. In response, the Federal Reserve enacted the sharpest tightening cycle in the history of the central bank. This whiplash reaction drove mortgage rates to the far end of the spectrum still offered to buyers today.

This whiplash in borrowing costs has left the majority of homeowners with ultra low financing on their current home, costs that are less than half of the prevailing terms available today. A potential seller (and in turn buyer) will have to contend with an increase from their current 3% mortgage to rates currently near 7% on their new home. This sharp increase in borrowing cost is price prohibitive for many and undesirable in the best case for the rest. The resulting effect is a greatly reduced supply of homes being listed for sale which has more than offset the decrease in eligible buyers in the marketplace. This combination has allowed prices to sustain at the current record levels and continue upward in trailing markets.

Looking forward all signs indicate a continuation of upward pressure on housing as rent prices (the only and obvious substitute) also increased to record levels during the Covid era. While rent prices have subsided [slightly] from historic highs in most major markets, the current price level remains far higher than pre pandemic expectations of home seekers. This is unlikely to improve even with rent levels near all time high costs as millions of Americans can't qualify to purchase a home under current conditions and many more view renting as more cost effective. While mortgage rates remain in the mid to high 6% range, renting will likely continue to be seen as more cost effective by short sighted residents unlikely to benefit from long term appreciation.

With all of these factors combined, a new concern is created and becoming more widely discussed amongst economists and real estate professionals. What Happens To Home Prices When Mortgage Rates Fall Back Into The 5% Range?

With the majority of property owners enjoying historically low financing and millions of renters getting squeezed with record high costs, what will happen to home prices when rates drop back into the 5% range allowing millions of buyers to qualify for financing?

What is the long term effect of unchecked and unprecedented levels of migration into a country already facing a housing shortage?

Michael Bardy

Real Estate Finance Professional | MacroEconomist