In the five years since the housing market began its halting recovery, most market metrics that you would hope would move up have done just that, gone up. First, look at housing prices. The S&P CoreLogic Price Index currently sits at about 190, up from a cyclical low of 135 in 2012, and slightly above the previous cyclical high of 185 in 2007.
While the collapse of housing prices from 2008 to 2010 created a mass exodus of buyers, these higher prices have helped convince new-home buyers that buying a house isn’t too risky. Last year, the annual rate of new-home sales was about 600,000, up 19% year over year and a full 40% above the cyclical low of 373,000 in 2010. (This sales increase has in turn pushed down the months supply of unsold new housing to about five months versus the cyclical peak of almost 12 months in 2008. Yes, it’s better for housing when some metrics decline.)
But generally up is better than down, and that’s certainly the case with consumer confidence and builder confidence. In 2010, the consumer confidence index hit rock bottom at 25. It’s now hovering around 115 and has jumped significantly upward since the election.
The Wells Fargo/NAHB index has shown similar movement for builder confidence. In January 2009 it sat at 8; in effect the market was on life support. Builders rate the current market at 70, and they rate sales over the next six months at 78. Compared with 2009, that’s a huge turnaround.
One reason builders might be so confident is that they’re looking at household formation rates. Overall, the current annual household formation rate—1.3 million—is above the 50-year average. More households drive demand for more new housing. It’s as simple as that.
These positive metrics explain why a few months ago the rate of annual housing starts hit a cyclical peak of 1.3 million units, a far cry from the Great Recessions’ cyclical low of 550,000 units, which was down almost 75% from the same market’s cyclical high.
Knowing all this, it seems easy to understand why builders are so confident that this long, steady recovery still has legs. However, upward movement of mortgage interest rates, a key housing market metric, usually presages trouble. Mortgage interest rates have increased a full point in the past year and now sit at around 4.3%. By any historical standard that’s still low: When housing boomed in 2005 and 2006, mortgage rates were about 7%, and in 1983, when I bought my first single-family home, my mortgage rate was roughly 14%.
In the short term, a rise in rates usually triggers urgency on the part of buyers. And mortgage applications did spike at the end of 2016. Moreover, high consumer confidence numbers, low unemployment, an uptick in the first-time buyers’ market, and a relatively high level of affordability suggest a housing collapse or even a significant slowdown is unlikely.
On the other hand, since 2012, modest growth in median income, a big jump in housing prices, and the increase in mortgage rates have combined to reduce housing affordability by 20% to 30%. To me, this doesn’t suggest it’s time for builders to slam on the brakes. I think it suggests that builders should ease up on the accelerator, temper their optimism, control costs, and shy away from aggressive housing price increases. In other words, steady as she goes, not full speed ahead.
