As I mentioned last week, there are two problems we need to address in the current bear market to get us back on stronger footing. First was the coming correction in consumer credit

And today, we’re going to talk about the second looming problem… housing costs.

Since the COVID pandemic, home prices have been on the rise in the U.S.

Across the country, prices are up an average of 37%. And in the area where I live, I’ve watched some home prices double over the last 18 months.

Demand was so high, there were bidding wars around the country. Many people bought homes for tens of thousands of dollars above the asking price.

What makes this housing bubble so scary is the speed at which prices rose. It only took 24 months for U.S. home prices to soar that 37%. In comparison, the biggest two-year increase prior to the 2008 housing crash was 29%.

So we grew this bubble faster and bigger than what we’ve seen historically.

The Fed has targeted this vastly inflated housing market in its plan to cool off the economy. By raising the federal funds rate, it sent 30-year fixed-rate mortgages up around 6%. Yet we didn’t see much response in prices in the first half of this year.

But the shoe is beginning to drop.

In one of his last press conferences, Fed chair Jerome Powell said it was time to hit the “reset” button on the housing market.

So let’s dig into what we can expect in the near future of housing…

Cooling the Economy

The Fed has been essentially doing a multi-tiered strategy to let the air out of the balloon slowly. It wants to remove inflation – ideally without causing a recession.

This year, it started with pushing prices down for speculative assets like meme stocks and cryptos. Then we saw huge equity sell-offs and massive deleveraging of margin debt balances as well.

Now it’s time for housing to come under its gaze. And here’s what Fed Chair Jerome Powell had to say about his new target:

I’d say if you are a homebuyer, somebody or a young person looking to buy a home, you need a bit of a reset. We need to get back to a place where supply and demand are back together and where inflation is down low again, and mortgage rates are low again.

The Fed has set its sights on bringing the housing market back into line.

It has already begun raising rates this year with a 25 basis point raise in March, a 50 basis point raise in May, and a 75 basis point raise in June. And another 50–75 basis point raise is expected for July, according to Powell.

As I mentioned above, the average 30-year fixed mortgage rate has jumped to nearly 6% – levels not seen since 2008. This is a sharp contrast from the 3.2% at the start of the year.

And these higher rates have already started to price out home buyers.

Mortgage purchases are down 25% from their highs back in January. Meanwhile, new mortgage applications are down 16% since a year ago.

And in June, the highest number of sellers since the Great Recession finally lowered the asking price for their homes.

Buyers Are Saying No

The American consumer is getting squeezed. Inflation is eroding incomes, with ever more pricy food, shelter, power, and transportation – the very things we need to survive – eating up any spare cash.

And with all this, buyers are finally saying no.

One year ago, the typical home buyer with a 30-year fixed-rate mortgage was looking at a monthly payment of $1,692. That includes principal, interest, taxes, and insurance (PITI).

That same number is now $2,514 a month, or an $822 increase. That’s a 48% increase in just one year.

Buyers have said enough is enough. And that drop in demand is finally starting to ripple through the housing market.

New home sales over the last month have fallen 16.6%, and existing home sales have fallen 3.4%. This might not sound like much, but that’s a home buying decrease to the tune of 300,000 fewer homes sold in a month.

Now, I’m not saying that real estate prices are going to nosedive tomorrow. But we are observing the beginning of a correction in the housing market.

After all, the Fed engineered this downward trend as another stage in its “soft-landing” strategy to cool the U.S. economy’s rampant inflation problem – and sky-high home prices have been a huge part of it.

The supply of homes in the U.S. in a “normal” market is between 1.52 million and 1.93 million housing units. That comes out as an average 5.7-month supply of homes.

Month supply refers to the number of months it would take for the current inventory of homes on the market to sell given the current sales pace.

As of May, the housing supply increased to 1.16 million housing units – up from 1.03 million In April.

While the supply is still lower than normal, inventory is starting to stockpile back up.

In fact, the housing supply has increased each month since January.

And over the next 18 months, we should see the housing market slow greatly, home prices decrease, inventory levels rise, and an overall cooling of the industry.

So where does this leave those of us contemplating a move?

How This Affects You

If you’re someone who’s been thinking about selling your home, now could still be a good time to sell while the market is still high. Just don’t expect as many all-cash offers or the kind of bidding wars we were still seeing last year.

If you’re looking to buy a home, this winter and the next will likely be solid entry points.

Home prices in January and February historically cost 8.45% less than in the summer months of June through August. This is due to several factors – the primary one being that families prefer to move during the summer months when school is out of session.

Either way, the good news is that we’re on track to sort out the problem of sky-high housing costs. It will take time for us to find a new equilibrium, but it’s coming.

And once we return to more normal conditions, we’ll be one step closer to working our way out of this bear market… and stocks resuming their long-term trend up.

Talk soon,

Jason Bodner
Editor, Outlier Insights