I wrote recently about how the housing market continues to show strength, driven in part by buoyant builder sentiment, low inventories and high demand across all price points. That was back in the fall, and while all signs point to strong new home demand through this spring and summer, a new confluence of pressures could force a tamping down of the new home market later this year.
What I did not see back then, and what continues to worry me, is the persistence of expanding inflation in our economy. I was convinced it was reflecting a temporary situation in the pandemic-driven supply chain disruption, and apparently, I was not alone in misreading these tea leaves.
Jay Powell, the Fed chairman, is also startled at the utter momentum of inflation in our system, and like me, it has now become a source of worry for the outlook on new home construction later this year. His only tool to combat the robust rise in prices across all segments is to raise interest rates, a move that could, coupled with rising material and labor input prices, add further pressure on affordability.
As has been widely reported in the business press, supply-chain bottlenecks that put upward pressure on home prices along with rising interest rates contributed to housing affordability falling to a 10-year low earlier in February. The likelihood of higher interest rates in the months ahead, along with ongoing production challenges, threaten to drive housing affordability even lower in 2022.
Low Affordability. According to the most recent National Association of Home Builders/Wells Fargo Housing Opportunity Index, also known as the HOI, just 54.2% of new and existing homes sold between the beginning of October and end of December were affordable to families earning the U.S. median income of $79,900.
This is down from the 56.6% of homes sold in the third quarter of 2020. But more startling, the HOI reveals this reading is the lowest affordability level recorded since the beginning of the revised series in the first quarter of 2012.
The report shows that the national median home price increased to a record $360,000 in the fourth quarter, up $5,000 from the third quarter, and a stunning $40,000 from the first quarter. Meanwhile, average mortgage rates increased by 21 basis points in the fourth quarter to 3.16% from 2.95% in the third quarter. Currently, mortgage rates are running above 3.5%, and this higher trend will further affect affordability later this year.
And as we would expect, these affordability indexes vary dramatically from the Midwest to the West Coast, the South, and the eastern United States, accounting for the growth in demand in more affordable markets where buyers are migrating in large numbers against the backdrop of prices that are unsustainable for average incomes in their current home states.
The Trends. For example, the HOI ranks Lansing-East Lansing, Mich., as the nation’s most affordable major housing market, defined as a metro with a population of at least 500,000. There, 90.6% of all new and existing homes sold in the fourth quarter were affordable to families earning the area’s median income of $79,100.
Meanwhile, Cumberland, Md., was rated the nation’s most affordable small market, with 94% of homes sold in the fourth quarter being affordable to families earning the median income of $60,800.
But the trends out west, and especially in California, are worrisome: for the fifth straight quarter, the Los Angeles-Long Beach-Glendale market remained the nation’s least affordable major housing market. There, just 7.5% of the homes sold during the fourth quarter were affordable to families earning the area’s median income of $80,000. Further, California also led in the top five least affordable small housing markets.
This combination of interest rate hikes driven by the need to fight inflation, and the rise in labor and material inputs, could slow the housing market temporarily. The length of that slowdown will be determined by just how long this pandemic-driven round of inflation stays with us.
About the Author
Pierre G. Villere serves as president and senior managing partner of Allen-Villere Partners, an investment banking firm with a national practice in the construction materials industry that specializes in mergers & acquisitions. He has a career spanning almost five decades, and volunteers his time to educating the industry as a regular columnist in publications and through presentations at numerous industry events. Contact Pierre via email at pvillere@allenvillere.com. Follow him on Twitter – @allenvillere.