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Changing U.S. Home Price Trajectories Signal Cooldown

Predicting the future path of home prices is challenging. Many variables that should theoretically impact price growth may or may not be influential, depending on economic conditions and cycles. The double-digit growth in U.S. residential home prices over the past few years is unprecedented, but it has been supported by both economic factors (such as low mortgage rates and limited supply) and behavioral factors. For example, new and relocating buyers plunged into a frenzied housing market amid the COVID-19 pandemic as they sought to acquire more space and achieve social distancing. The advent of remote work and school also expanded the geographic opportunities of ownership, which boosted demand in neighborhoods across the country.

S&P Global Ratings' views on mortgage credit can be influenced by the extent to which we consider regional housing over- or under-valued. Therefore, we integrate this market information into our rating analysis of certain U.S. residential mortgage-backed securities (RMBS). Because there are regional differences in home price movements, we are monitoring areas of the country that may be overvalued and thus more susceptible to greater price declines under adverse scenarios (see "Housing Overvaluation Trend Continues: What It Means For U.S. RMBS," published April 5, 2022, for more information). Given the recent and notable developments in home price dynamics, we are providing a snapshot of residential housing fundamentals, including certain features of the U.S. housing market that impact home price growth (see chart 1).

Chart 1

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Approaching The Inflection Point

Even though housing supply remains constrained, the combination of economic uncertainty and elevated mortgage interest rates (now well above last year's record low sub-3% rates) appears to be forcing a slowdown in price growth and even price declines in some markets. However, based on our analysis of factors that drive home price appreciation and scenarios that may cause prices to decline, we do not expect broad near-term declines in home prices across the country (see "A Sudden Correction To Fast-Rising U.S. Home Prices Isn't Likely," published Dec. 2, 2021, for more detail).

Earlier this year, the general sentiment was that the housing market would begin to cool by year end or in 2023. Indeed, we believe the steep home price growth trajectory that started in 2020 is now approaching, or may have already reached, an inflection point. According to the Federal Housing Finance Agency (FHFA), five of the nine U.S. census divisions experienced month-over-month home price declines in June. Although the data are subject to revision, the last time five or more U.S. Census Divisions reported month-over-month declines in a summer month was in 2012 (excluding May 2020, during the early days of the pandemic) (see charts 2 and 3 for monthly June data). Also, except for May 2020 and June 2022, month-over-month declines in five or more census divisions has occurred only once since 2012 (in February 2016, which is a seasonally weak home buying month).

Chart 2

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Chart 3

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Home Prices Are Cooling

The latest monthly data suggest that we have started to experience the slowdown many market participants had forecast earlier this year, when mortgage rates quickly rose by about 300 basis points and pandemic-related migration patterns eased. Although the seasonally adjusted FHFA Purchase-Only Housing Price Index (HPI) recorded a 4.0% second-quarter gain, the index rose only 0.1% month over month in June, which suggests a slowing of home price growth as we move toward year end. The S&P CoreLogic Case-Shiller U.S. National Home Price NSA Index (S&P CoreLogic Case Shiller) recorded similar trends, with a quarter-over-quarter increase of 4.6% and a month-over-month increase of only 0.6% in June.

The S&P CoreLogic Case Shiller and FHFA Purchase-Only HPI indices are based on repeat sales, which means they measure home price appreciation or depreciation based on aggregate changes in sale prices of individual properties (relative to the same properties) over time. Repeat sale indices can therefore be interpreted as measures of home price change during a given period from the homeowner's perspective.

The change in median home price, on the other hand, measures something somewhat different. The median is a type of average: an order statistic that provides summary information about aggregate sale prices at a point in time. When changes in the median price are considered, the properties measured at a specific point in time may not be the same as those measured in a subsequent period. As such, the median reflects buyer preferences as well as broader movements in valuation. For instance, if there is a broad market shift toward buying smaller homes or homes that are further from urban centers (all at correspondingly lower price points), the median price may drift down, capturing the trend in buyer preferences rather than the depreciation of specific houses. In addition, median prices are not usually seasonally adjusted, which causes substantial volatility in certain markets, such as the Northeast, and may mask local directional trends. The U.S. median home price rose 1.7% quarter over quarter to $440,300 in June, but more recent data indicate that the median price for existing home sales (which make up the majority of home sales) fell 2.4% month over month in July.

Chart 4 shows the median price of houses sold in the U.S., and the FHFA Purchase-Only HPI since 2000.

Chart 4

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Because existing home sales typically contribute to roughly 90% of total sales (i.e., both new and existing), we believe the median existing home price is a good proxy for the directional change in the trend of total median home price. However, we also believe median prices should be considered with a measure of caution for the following reasons:

  • Owners of higher-priced homes may be less likely to sell because their low mortgage rates, which were locked in months ago, have relative value and serve as disincentives to sell. Owners of lower-priced homes, on the other hand, may be more willing to sell because their low mortgage rates have less relative value. This imbalance in incentives suggests the median sale price could skew downwards.
  • Owners of relatively high-priced homes may be more sensitive to falling home prices and reluctant to sell into a softening market, thus reducing the number of homes transacting at higher price points.
  • Transactions could skew to a lower price point if stock market volatility and economic uncertainty put generally wealthier buyers of more expensive homes in a "wait and see" pattern.
  • Demographic data show that the large millennial population forming households is more likely to support demand for entry-level housing.
  • The median sale price reported at the national level can experience meaningful volatility if regions with relatively low-priced homes are experiencing greater unit sales counts compared to those of higher cost regions.

While the directional change in existing median home price trends may not be the best metric to assess a housing market cooldown, there are some early indications of price slowdowns in new home markets as well. New home orders and sales traffic have weakened in many markets since June due to the rapid increase in mortgage rates earlier this year and the various economic headwinds consumers are facing. Also, many housing markets have softened because they have entered the slower part of the selling season. To maintain momentum, builders have been offering incentives to homebuyers, primarily in the forms of price discounts on individual homes, optional upgrades without charge (to appliances, cabinetry, and flooring, etc.), and financing incentives. Some companies may also cover closing costs, provide rate buydowns, lock rates for longer durations, or limit inventory by booking orders only on homes that can be built within the next five to 10 months. We believe home builders are partially motivated to offer these incentives to prevent value erosion of comparable properties within their developments.

These concessions can be viewed as a reduction in the home sale price. Therefore, depending on the incentives provided, it is reasonable to assume that net new home sale prices are lower than listed. New home sale prices are also contingent on the decisions builders make regarding type of construction (e.g., luxury versus entry level) and the strategies they employ to develop in specific regions. Current market demand suggests that new communities with no backlog, as well as entry-level communities, should be priced close to, or even lower than, new homes that were sold recently.

Growth And Price Slowdowns Will Continue

Many of the economic variables that affect home prices are reasonably well understood. However, the trajectory of home prices is also influenced by certain behavioral factors that can be difficult to quantify and predict, rendering home price forecasting even more challenging. For example, broad market optimism may put buyers in a willing position to transact despite negative economic features, such as rising mortgage rates.

Successive higher-than-expected interest rate hikes could push the 30-year fixed-rate mortgage higher, cooling home price appreciation over the next year. The decline in housing starts, which likely reflects builders' pessimism toward the sale of their completed inventory by year end, may exacerbate the persistent housing supply-demand imbalance. It may also force some would-be buyers to rent, further easing some of the upward pressure on prices, notwithstanding the recent strong growth in rents. We also believe the recent month-over-month changes in the FHFA Purchase-Only HPI stand out relative to the same months in the past decade, and they may prove an important bellwether of future home prices.

Related Research

This report does not constitute a rating action.

Primary Credit Analyst:Jeremy Schneider, New York + 1 (212) 438 5230;
jeremy.schneider@spglobal.com
Secondary Contacts:Sujoy Saha, New York + 1 (212) 438 3902;
sujoy.saha@spglobal.com
David Vergaray, New York + 1 (212) 438 0812;
david.vergaray@spglobal.com
Maurice S Austin, New York + 1 (212) 438 2077;
maurice.austin@spglobal.com
Research Contact:Tom Schopflocher, New York + 1 (212) 438 6722;
tom.schopflocher@spglobal.com

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