Rising mortgage rates are likely to influence prospective buyers to purchase a home sooner, rather than waiting until the spring and summer buying season gets into full swing. This is especially true as affordability moves further out of reach for some buyers.
“In November, year-over-year nominal house price appreciation reached 21.5%, the sixth consecutive month it has set a new record. According to our Real House Price Index (RHPI) - which measures housing affordability based on changes in income, interest rates, and nominal house prices - affordability declined 21.0% compared with a year ago, as the growth in nominal house prices combined with the 30-basis point increase in the 30-year, fixed mortgage rate vastly outpaced the 4.4% increase in income,” said Mark Fleming, chief economist at First American. “Affordability is likely to decline further in 2022, because both mortgage rates and nominal house prices are expected to rise.”
Fleming also expects this rise in mortgage rates to occur in the near future, as the Federal Reserve already made its intentions clear in the fight against inflation. The Fed is looking to begin to increase rates as soon as March 2022.
“Mortgage rates typically follow the same path as long-term bond yields, which are expected to increase due to the Fed’s tightening of monetary policy, higher inflation expectations, and an improving economy,” said Fleming. “The consensus among economists is that the 30-year, fixed mortgage rate will increase from its November rate of 3.1% to 3.7% by the end of 2022. Some forecasters predict rates will reach 4 percent, which is still historically low, but well above what buyers have grown accustomed to in recent years.”
Naturally, as rates increase affordability will diminish for many prospective homebuyers, especially those who are on a much tighter budget. Fleming states that when mortgage rates increase, holding income constant, consumer house-buying power decreases.
“If the average mortgage rate remained at its current level of approximately 3.5% through the spring home-buying season, assuming a 5% down payment and holding average household income constant at the November 2021 level of $69,800, house-buying power falls by approximately $25,000,” said Fleming. “If rates increase to the anticipated end of 2022 level of 3.7%, house-buying power would fall by $36,000. Finally, if mortgage rates reach 4% as some industry experts anticipate, house-buying power would fall by nearly $52,000 compared with November 2021.”
Fleming also expects that buyers will begin to experience the fear of missing out (FOMO) or the fear of better options (FOBO).
“While rates are expected to increase steadily throughout 2022, many potential home buyers may try to jump into the market now before rates rise further. The fear of missing out, or 'FOMO,' on low rates and the potential loss of house-buying power may supercharge the housing market ahead of the spring home-buying season,” said Fleming. “However, housing supply tends to increase in the spring months as more sellers list their homes for sale. While home buyers may have FOMO because of rising rates, they may not want to succumb to the fear of better options, or 'FOBO,' because there may be a better home option or options when there’s more homes for sale, even if it means they may pay more.”