Rising Rates Cut into Sales

New home sales fell 8.6% in March after being revised significantly higher for February. New home sales reflect activity at the contract signing level, which shows the impact of rising mortgage rates. Construction costs continue to rise as everything from supply chain woes to labor shortages plague builders’ ability to keep up with demand. These costs are being passed along to buyers. Those who can afford to pay all-cash are spared from rising rates; all-cash buyers for new homes rose to the highest level since 1988.

Home prices continue to surge. The S&P Corelogic Case-Shiller home price index jumped 20% in February. The pace of growth flattened in late 2021 but is rising again. The move up in this index is particularly notable as it more closely tracks resale values. (It is less influenced by the rising share of all-cash and wealthier buyers in the housing market than other measures of home values.)

Gains in home values have been largest in what were once considered second-tier markets in the South, which are attracting wealthier tech workers and second-home buyers. Many markets are no longer within the reach of local buyers.

The share of new homes sold for over $750,000 more than doubled in March from 2020 levels. The share of new homes sold for under $300,000 was only 14% in March, less than half the share in 2020. More supply is desperately needed at the lower end to meet demand from first-time buyers.

Separately, existing home sales fell for the second month in a row in March as lack of inventory and high prices discouraged first-time buyers. Sales sat at the lowest level since June 2020. Existing home sales reflect contracts signed in January and February, so we have yet to see the impact of mortgage rates climbing above 5% in early April.

The surge in rates coupled with the rise in prices pushed average mortgage payments up 42% in April from a year ago. The share of first-time buyers fell in 2022 as many have been priced out of a very competitive housing market; sales to first-time buyers plummeted at a double-digit rate from a year ago, while all-cash sales increased.

Vacation home sales have surged since 2020 as low rates and the wealth they helped created added steam to the pandemic-induced demand for space. Upper income homeowners decided it was better to own a second home than to rely on hotels for vacation. That compounded the shortage of homes for sale and further crowded out first-time buyers with skyrocketing prices.

The shift has been so pronounced that the Federal Housing Finance Agency is attempting to curb demand for vacation homes by levying additional borrowing fees for second-home buyers, starting in April. Higher prices, rising mortgage rates and a broader reopening of the economy were already beginning to take a toll on vacation home sales, according to at least one major home-buying site in April.

Pandemic-related boosts to household wealth will help to keep a floor under housing demand this year. There are more cash buyers than a year ago; they are not impacted by rising rates. The risk is that they are impacted by other deterioration in wealth, for example, if the Federal Reserve were to overshoot on tightening or if concerns outside of the U.S. washed up on our shores to cause a recession.

Bottom Line
First-time home buyers will continue to face price challenges in a rising interest rate environment. The silver lining is that builders have taken note and are anticipating a strong year for multifamily building, as the demand for rentals is at an all-time high. Demographic shifts with more millennials becoming homeowners will also keep pent-up demand for housing strong.

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