Sales expected to drop to lowest level since 2008, and the growing lock-in effect — the financial disincentive to sell — ‘will remain in a way that has not occurred in over 40 years,’ economists say
Economists at Fannie Mae expect home sales to plummet next year to the lowest levels since 2008, before rebounding and helping lead the country out of a brief recession.
But the strength of this anticipated housing rebound could be subdued, in large part because so many homeowners will be reluctant to give up the low rates on their existing mortgages, Fannie Mae economists said Monday.
“The economy continues to slide toward a modest recession, which we anticipate will begin in the new year, with housing leading the slowdown,” Fannie Mae Chief Economist Doug Duncan said in a statement. “Higher interest rates have ignited the typical reduction in residential fixed investment, which historically has led into either an economic slowdown or recession. From our perspective, the good news is that demographics remain favorable for housing, so the sector appears well-positioned to help lead the economy out of what we expect will be a brief recession.”
At the end of October, more than 80 percent of homeowners with mortgages were paying at least 2 percentage points less than current market rates — the largest share in decades, Fannie Mae economists said in commentary accompanying the release of their latest monthly forecast.
The growing “lock-in effect” — the financial disincentive for existing homeowners to put their home on the market, move, and take on a new mortgage — “will remain in a way that has not occurred in over 40 years,” Fannie Mae forecasters said. “We expect that this could limit overall home sales over the next business cycle.”
Home sales seen as bottoming next year
This month’s forecast was the first time Fannie Mae economists have extended the horizon for their forecast into 2024. The latest forecast envisions home sales will bottom out at an annual rate of 4.27 million during the second quarter of 2023, and then post modest growth for the next six quarters.
For 2023 as a whole, Fannie Mae is forecasting a 21.5 percent decline in sales, to 4.951 million. That’s even more severe than the 17.7 percent drop in sales projected for 2022.
While Fannie Mae is forecasting that home sales will bounce back by 19 percent in 2024, to 5.898 million sales, that would still fall well short of the 6.307 million sales projected for this year.
Although the months’ supply of existing homes has been trending up over the last year, that seems to be largely because homes are taking longer to sell, and not because more people are putting their homes up for sale.
The most recent numbers from Redfin show the flow of new listings onto the market is down 17.5 percent from a year ago. Fannie Mae economists suspect that’s because many would-be move-up buyers are deciding not to put their homes on the market because they don’t want to give up the low rate on their existing mortgage.
“Beyond a slower pace of sales, an implication of this lock-in effect is that first-time homebuyers may increasingly turn to new homes in coming years as even fewer existing homeowners put their homes on the market,” Fannie Mae forecasters said. “Given this, homebuilders may focus more on comparatively modest product offerings as the number of move-up buyers is lower relative to past cycles.”
Falling demand means homebuilders have more inventory on their hands, which is likely to lead to more aggressive discounting, which could help new home sales “hold up comparatively well relative to existing sales in coming quarters,” Fannie Mae projects.
Fannie Mae projects sales of existing homes will fall by nearly 22 percent in 2023, to 4.424 million, with new home sales dropping 17.5 percent, to 527,000.
Mortgage rates may have peaked
Although Fannie Mae economists think mortgage rates will steadily decline over the next two years, they don’t see them dropping below 6 percent until late 2024.
Fed officials have expressed concerns about inflationary pressures stemming from tight labor markets leading to a wage-price spiral dynamic, Fannie Mae forecasters noted. “While we expect the Fed to slow the pace of its rate hikes at upcoming meetings, we anticipate the terminal rate [for the federal funds rate] will be near 5 percent.”
After hiking its target for the federal funds overnight rate six times this year, the benchmark rate now stands at 3.75 to 4 percent. With another 50-basis point increase expected at the Fed’s Dec. 14 meeting, the Fed could finally be nearing the end of its rate-hike campaign.
That, combined with a contracting economy and compression in the spread between Treasury yields and mortgage rates once interest rates stabilize, could spur a modest pullback in mortgage rates.
In an Oct. 23 forecast, economists at the Mortgage Bankers Association projected a more dramatic decline in rates, with 30-year fixed-rate loans retreating below 6 percent next year and well below 5 percent in 2024.
While lower mortgage rates “should eventually help spur a rebound in sales,” Fannie Mae economists said they don’t expect the rebound will be as dramatic as in some past cycles, thanks to the lock-in effect created by the dramatic ups and downs in rates. After hitting record lows last year, mortgage rates have more than doubled in the last year.
Going forward, Fannie Mae economists said, “this will be the first business cycle since the 1970s in which the trough and peaks in interest rates will be higher than the previous cycle.”
Forecast for modest, but sustained price declines
Source: Fannie Mae housing forecast, November 2022.
While Fannie Mae economists expect home sale to rebound in 2024, they project national home prices will continue to give up some of the meteoric gains seen during the pandemic.
The latest projection is for annual home price appreciation to drop into the single digits during the last three months of 2022, and turn slightly negative during the second quarter of 2023 and remain there through 2024.
Although Fannie Mae economists currently expect national home price declines won’t exceed 1.5 percent a year, some local markets are expected to see greater declines, while others could continue to see prices appreciate.
Measures like the Case-Shiller and Federal Housing Finance Agency purchase-only indices show house prices are now declining on a monthly basis, forecasters noted, and Fannie Mae’s surveys of consumers show that those who expect home values to decline over the next 12 months outnumber those who think they’ll climb.
“This will likely contribute to slower consumption growth because of a negative ‘wealth effect,’ in which households are less likely to dip into savings or take on more debt because they feel that their assets are declining in value,” Fannie Mae economists said.