Report: Rising Mortgage Rates Dampen Market Potential

January 24, 2017

The market potential for existing-home sales declined 3.1 percent in December due to the rise in mortgage rates, offsetting increased demand generated by broader economic strength, according to First American’s latest Potential Home Sales model.

“While low inventories are still responsible for higher prices, I expect the impact of the increasing mortgage rates will cause a modest cooling in house price growth in 2017,” said First American Chief Economist Fleming, who added that the market continues to underperform due to the highly limited inventory.

According to the report, potential existing-home sales decreased to a 5.8 million seasonally adjusted, annualized rate (SAAR). This represents a 92.5 percent increase from the market potential low point reached in December 2008. In December, the market potential for existing-home sales grew by 2.9 percent compared with a year ago, an increase of 164,000 (SAAR) sales. Currently, potential existing-home sales is 432,000 (SAAR) or 7.5 percent below the pre-recession peak of market potential, which occurred in July 2005.

According to the National Association of Realtors, existing-home sales grew 0.7 percent between October and November to 5.6 million (SAAR). The increase was driven mainly by an increase in sales activity in the Northeast, which grew by 8.0 percent over the course of the month.

“As I highlighted last month, the post-election increase in mortgage rates is contributing to the slower growth in sales activity,” Fleming said. “However, the most significant influence on sales is the lack of homes listed for sale, particularly entry-level homes. The supply of homes for sale has declined for 18 consecutive months, falling to 4.0 months in November—a level not seen since the mid-2000s.”

Fleming believes that rising rates may slow the house price growth rate by as much as 2 percent by the end of 2017. The low inventory of homes for sale continues to be a concern, as it is putting upward pressure on house prices and could counteract the downward price pressure caused by higher mortgage rates.

“One thing to watch for in 2017 is evidence of a ‘lockout effect,’ where homeowners are hesitant to sell their home if their mortgage rate is lower than the current market rate,” Fleming said. “Even though rising rates reduce affordability for potential first-time homebuyers, the expected moderation of price appreciation will align house price growth more closely with recently increasing income growth to help offset reduced affordability.”

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