Over the past year, the unemployment rate dropped, mortgage rates rose, home sales declined and home prices increased in most areas of the country. What will 2019 bring? Freddie Mac Chief Economist Sam Khater answers questions about 2018 and what to expect in the year ahead.
2017 was the best housing market in a decade. In 2018, did we continue to improve or did we fall back?
Home sales declined and home price growth decelerated, so we fell back from that perspective. However, the deceleration in home price growth reflects improving inventories and provides buyers who experienced tight supply for much of the year with more inventory to select from. We continued to experience a very good labor market throughout the year and mortgage rates have recently moderated, so I expect to see purchase mortgage applications firm up, which is a positive development heading into 2019.
Even though mortgage rates have fallen a bit recently, they have been steadily rising this year with the 30-year fixed mortgage rate averaging around 4.5 percent in 2018. How have rising rates affected the market?
This year, home sales reacted more sensitively to the increasing rate environment than they have in the past. The economy is running in its second longest expansion ever and the housing market has grown in tandem with it, which has led to a substantial increase in home prices causing affordability issues for some potential homebuyers. Therefore, a modest negative headwind, like rising mortgage rates, can have an outsized impact. I think that’s what we’ve experienced in the housing market in 2018 more than anything else.
You have previously discussed the lack of housing supply. Do you see this problem continuing or improving in 2019?
I expect the problem to continue into 2019, and it’s likely get worse. The main reasons for the housing supply shortage are lack of land, lack of construction labor and expensive lumber. The lack of labor and expensive lumber is cyclical. On the other hand, zoning is a structural issue that is causing the price of developed land to rise and is often an impediment to creating more supply. However, some cities and states are beginning to look at options around creating more dense zoning.
Minneapolis is a perfect example of a city adapting to meet supply issues. Minneapolis just changed zoning regulations for the entire city to allow for more development. It will be interesting to see what the impact these new zones will have on the city from a supply and affordability standpoint, as well as homeownership rates, home prices and home sales.
What needs to happen for 2019 to outpace 2018 in terms of home sales?
We’ve been optimistic that sales are going to very modestly increase in 2019. For that to happen, economic growth needs to remain stable and mortgage rates need to remain under 5.25 percent. We expect both of those conditions to occur, which should support a modest rise in home sales. The latest monthly data indicate sales are stabilizing as existing home sales have risen the last two months, which is notable given that they had declined for most of 2018.
Where will you be looking next year to see if things are improving in the housing market and where will you be watching to see if things are deteriorating?
The slowdown in home sales and home prices in 2018 was concentrated on the high end of the market and along the more expensive coastal and formerly hot markets. While interior housing markets exhibited a slowdown, it was milder than the slowdown in coastal markets. Therefore, the key is watching what will happen in these markets – and that’s driven primarily by affordability.
Generally, the monthly mortgage payment remains affordable for most buyers and that’s good news. First-time buyers account for over 45 percent of purchases and their share hardly has been impacted by the run up in mortgage rates in 2018, which I think illustrates that they are a stabilizing force to the market because their willingness to purchase is high.
One of the challenges continues to be the misconceptions around the down payment and how much buyers need; the average is between 5 and 10 percent. Millennials are the key driver of home sales and are particularly sensitive to the down payment hurdle, so they are segment we will have to watch closely.
What’s the good news story about where the housing market is today in relation to the past decade?
Homeownership rates finally began to recover over the last few years and it is concentrated among families earning less than the median income. The other good news is we’ve had a major home price boom, but there will likely be no crash thanks to the very large home equity cushion of about $15 trillion. In the last decade, when home prices were plateauing, that cushion was declining – we are not seeing that today. Homeowners have become more conservative in using their home equity and have learned they need to build up a cushion in case home prices decline. The rise in homeownership rates and home equity is a good development for consumer financial health and the economy.