Home Prices Predicted to Skyrocket Amidst Mortgage Refinance Boom
The Federal Reserve could not have chosen a less opportune moment to begin easing, especially with the upcoming election. As predicted in December, the Fed would lower rates just as home prices and rent were set to increase again.
Shelter/OER Inflation Lags by 18 Months
The next paradox for the Fed is that Shelter/OER inflation lags by 18 months, meaning housing inflation will decline well into 2025, even as actual rents are beginning to rise again. By the time the lagged Consumer Price Index (CPI) catches up with "today", real rents will be increasing by double digits.
Just days before the Fed's significant 50bps rate hike, the Bureau of Labor Statistics reported the first annual increase in shelter costs since March 2023. However, this is just the beginning. The next price surge from already record high prices is imminent.
Effects of the Fed's 50bps Rate Cut
The Fed's 50bps rate cut has already resulted in the cheapest mortgage borrowing costs in two years. Applications to refinance mortgages surged for a second week. The Mortgage Bankers Association’s refinancing index, which covers more than 75% of all retail residential mortgage applications in the US, soared 20.3% in the week ended Sept. 20 to the highest level since April 2022. This followed a 24.2% surge in the previous week, as the rate on a 30-year fixed mortgage eased 2 basis points to 6.13%.
This also helped boost the group’s home-purchase applications index higher by 1.4% last week to the highest level since early February. The fifth straight weekly advance in the measure points to burgeoning demand in a housing market that’s gradually finding some footing.
Impact on Refinancing
While traditionally an easing cycle does not immediately translate into a surge in refi applications, in this case, there may be a glitch. Yields on the 10-year Treasury note already edged higher in the last week. Traders debated the magnitude of the Federal Reserve’s expected interest-rate cut in November, the path for reductions, and also started pricing in the next bout of inflation.
As the average contract rate on a 15-year mortgage and the five-year adjustable-rate mortgage ticked up last week, those seeking to refinance may rush to do so now before rates rise even more.
Lower Refi Rates and Higher Prices
Lower prices mean higher affordability. As mortgage rates slide to the lowest in two years, borrowers are set to shave thousands of dollars off of their annual payments. This frees up cash that could be used to continue consumer spending, outlays for home improvements, debt repayment, and more. But mostly for home purchases and even higher home prices at a time when the home supply pipeline is woefully plugged up.
One can argue that the surge in refinancings could spark a dramatic, double-digit increase in median home prices.
Refinancing Activity and Savings
The last time refinancing activity was this high, mortgage rates were just under 5%, according to the Mortgage Bankers Association. Joel Kan, MBA’s vice president and deputy chief economist, said, "While the level of refinance activity is still modest compared to prior refi waves, they now account for the majority of applications.”
For example, the average loan refinanced last week was around $386,000. If it were taken out a year ago and assuming that $4,000 in principal has been paid off in that time, the homeowner would pay $2,700 a month. But refinancing the remaining $386,000 into a new 30-year mortgage at the current 6.13% rate would translate to a payment just under $2,350. That’s a saving of $350 a month or more than $4,000 a year!
Impact on Larger Loans
The drop in mortgage rates helps larger loans exponentially. For a $1 million mortgage, the payment with a 6.13% mortgage interest rate would be around $6,079 a month. But a year ago, with rates at 7.41%, the payment would have been over $6,900, so that homeowner could save more than $800 a month.
The Affordability Puzzle
Falling mortgage rates are just one piece of the affordability puzzle. On the resale market, where inventory remains near the lowest on record as owners remain locked into their low mortgage rates, the median price is $416,700, near the highest on record. Any cash unlocked thanks to lower refi rates will almost certainly go toward the price of a new home.
In the coming months, keep a close eye on the Owner-equivalent rent component of the CPI basket (which just happens to be the largest one) which is about to blast off just as fast as all those new mortgage refis.
Bottom Line
The Federal Reserve's decision to cut rates has led to a surge in mortgage refinancing applications, potentially leading to a dramatic increase in home prices. While this could lead to significant savings for homeowners, it also raises questions about the sustainability of this trend and its impact on the overall economy. What are your thoughts on this development? Feel free to share this article with your friends and join the conversation. Don't forget to sign up for the Daily Briefing, available every day at 6pm.
