Will Americans be able to buy a home again?

As mortgage rates last week reached their highest level in 23 years, the cry rang out across markets and social media: Is housing affordability dead? Did some version of the American dream — homeownership, kids, backyard barbecues — die with her?

The question is acute because housing affordability has fallen by nearly half since the days of ultra-low interest rates in 2021, according to the National Association of Realtors.

The association says the average family was already $9,000 short in August in the income needed to buy the average existing home, and the recent rise in prices since then has moved another five million American households below the benchmark to qualify for a $100,000 loan. $400,000, according to John. Burns Real Estate Consulting. At a mortgage interest rate of 3%, 50 million families could obtain a loan of this size. Now it’s 22 million.

While an easing in Treasury yields this week brought the 30-year fixed mortgage back below 8%, there is no quick fix.

The qualifying annual income for the median home price in 2020 was $49,680. Now the amount is more than $107,000, according to NAR. Redfin puts the number at $114,627.

“[These are] “Staggering numbers make home affordability more difficult for many American families, especially those looking to buy their first home,” bond market expert Mohamed El-Erian, who is an advisor to Allianz among many other roles, posted on X.

“It’s a very troubling development for America,” said Lawrence Yun, chief economist at NAR.

Affordability depends on three big numbers, according to Lyon: household income, home price, and mortgage rate. With incomes rising since 2019, the biggest issue is interest rates. When they were low, they masked the rise in housing prices that began in late 2020, helping people who moved to areas such as Florida, Austin, Texas, and Boise, Idaho, to work in their old cities from their new homes. Now, rising interest rates are crushing affordability even as incomes rise sharply and home prices mostly hold on to the big gains they made during Covid.

“At the current mortgage rate of 8%, pay off the mortgage[s] 38% of median income, said Mark Zandi, chief economist at Moody’s Analytics. The mortgage rate must fall to 5.5%, the median home price must fall by 22%, or the median income must rise by 28%. Or a combination of the three variables.”

Meanwhile, demand for adjustable-rate mortgages rose to the highest level in a year amid the broader slowdown in mortgage applications.

What needs to change to make housing affordable again

The three indicators face a difficult road to return to “normal,” and normality is still a long way from here. Some numbers explain why.

The National Association of Realtors measures affordability through the 34-year-old Housing Affordability Index, or HAI. It calculates how much income the average family must have to cover the costs of the average current home, which currently costs about $413,000, according to NAR. If the index equals 100, it means that the average family has enough income to purchase this home with a down payment of 20%. The index assumes that a household wants to pay 25% of its income toward principal and interest.

The long-term average HAI is 138.1, which means the average household typically has a cushion of 38%. Its all-time high was 213 in 2013, after the housing and financial crisis of 2008.

Currently, this indicator stands at 88.7.

Some scenarios using NAR data help show how far behind the average affordability was between 1989 and 2019, and what would be needed to push it back into a more typical range as the 30-year national average fell to 7.98% on Tuesday.

• If home prices remain stable, rates would need to drop to 3.55% to return to the historical average.
• If prices rise by 5%, rates should drop to 3.16%.
• If rates stay the same but income increases by 5%, rates should drop to 3.95%.
• Keeping the mortgage rate at around 8% means that average home prices need to fall by 35% to $265,000.
• If rates remain at 8% and prices at current levels, income should increase by 63%.

But these numbers understate the challenge of getting affordability back to where Americans are accustomed to seeing it.

Getting back to the affordability people enjoyed during the ultra-low interest rates of the pandemic will take more than that: The HAI reached an annual average of 169.9 that year, a level few believe will return any time soon.

Affordability is stretched in part because home prices have risen 38% since 2020, according to NAR, but more importantly because of the jump in average interest rates from 3% in 2021 to 8% last week. That’s a 167% jump, resulting in a $1,199 increase in monthly payments on a newly purchased home, per NAR.

High wages are an advantage, but they are not enough

Rising incomes will help, and median household income has risen 16% to more than $98,000 since 2020. But that’s not enough to cover the affordability gap without devoting a higher share of households’ paychecks to mortgages, Zandi said.

Doug Duncan, chief economist at Fannie Mae, said that regardless of the initial numbers, the direction of monetary policy will prevent income from solving the housing problem. Duncan said the Fed is raising interest rates precisely because it believes wages are growing fast enough to boost post-Covid inflation. He said year-over-year wage gains fell to 3.4% in the latest labor market data, and the Fed wants wage growth to be lower.

Downward pressure on housing prices could help, but it does not appear that they will fall significantly. Even if housing prices decline, this trend will not be sustainable unless America builds millions of additional homes.

After prices soared from 2019 until early 2022, it would have been easy to assume a major price correction would occur, but that did not happen. In most markets, prices are starting to rise slightly. According to the Realtors Association, the median price of an existing home fell by more than $35,000 in late 2022 but has risen by $45,000 since its January low.

There is not enough new housing in America

The biggest reason is that too few homes are for sale, which makes the laws of supply and demand not work normally. Even as demand is hurt by affordability issues, the buyers out there have to compete for very few homes, keeping prices close to equilibrium.

“Boomers are doing what they said they were going to do. They’re aging in place,” Duncan said. “And Generation X is already locked into 3% mortgages. So it’s up to the builders.”

Darryl Fairweather, Redfin’s chief economist, said builders are a problem. They have boosted earnings this year, and the BlackRock ETF that tracks the industry is up 41%, but Fairweather said they have barely begun to address the long-term housing shortage that Freddie Mac estimated at 3.8 million homes before the pandemic, a figure that from It will likely grow from then on.

She said that construction companies began work on 692,000 new single-family homes only this year, and 1.1 million of them include residential units and apartments. She added that it would take approximately four years to build enough homes to rebuild supplies, leaving new families to be formed. At the same time, apartment construction has already begun to slow, and builders are pulling back on mortgage buyouts and other methods they used to support demand.

There are reasons to believe that more buyers could emerge. Millennials are moving into their peak homebuying years now, Duncan said, promising to add millions of potential buyers to the market, with the largest annual baby boomers reaching an average first-time purchase age of 36 by around 2026. Fairweather expects this will bring more buyers back into the market, but will inevitably push prices back towards the previous peak, which there were signs of occurring earlier this year when mortgage interest rates fell to 6% in early March. .

“We need two more years to build at this pace, and we can’t maintain demand because of high interest rates,” Fairweather said.

The Fed and the bond market are big problems

Economists say there are two problems with mortgage rates right now. One is a Fed determined not to declare victory on inflation prematurely, and the other is an overly sensitive bond market that sees inflation everywhere, even as the rate of price appreciation across the economy has declined significantly.

However, mortgage rates are 2 percentage points higher than they were in early March 12-month inflation, which in theory is a hedge against rising interest rates, fell to 3.1% from 6% in February. This is still above the Fed’s 2% target for core inflation, but it is a measure of inflation excluding shelter costs – which the government says An increase of 7% last year Despite much smaller declines or gains in housing prices reported by private sources – It was 2.1% or less Since May.

The Fed has raised the federal funds rate by just three-quarters of a point since then, as part of its “higher for longer” strategy — maintaining higher interest rates rather than aggressively adding more rate hikes from here. The biggest reason for the recent mortgage rally is the bond market, which has pushed 10-year Treasury yields up as much as 47%, to a full 1.6 percentage points. Moreover, the traditional spread between 10-year Treasuries and mortgages has widened to more than 3 percentage points — 1.5 to 2 points is the traditional range.

“It’s hard to justify a rise in interest rates, so it may just be volatility,” Fairweather said.

However, few economists or traders expect the Fed to cut interest rates to help the housing sector. Continuing medical education Feedwatch toolThe central bank, which relies on futures prices, expects that even if the central bank finishes, or at least is close to finishing, raising interest rates, it will not start cutting interest rates until next March or May, and only modestly after that. Spreads are likely to remain wide until short-term interest rates fall below longer-term Treasury rates, Duncan said.

It may take until 2026 to see a “normal” real estate market.

Economists say returning affordability to a comfortable range will require a combination of higher wages, lower interest rates, and price stability, and that combination could take until 2026 or later.

“The market is in a deep, deep freeze,” Zandi said. “The only way the ice will thaw is a combination of lower prices, higher incomes and lower interest rates.”

In some parts of the country, it will be more difficult, according to NAR. Affordability has been hit harder in markets like New York and California than it is nationally, and middle-income markets like Phoenix and Tampa are as unaffordable now as they were in parts of California earlier this year.

Until conditions normalize, the market will remain restricted to small groups of people. Cash buyers will have a greater advantage than usual. If a buyer is willing to move to the Midwest, Yoon says, the best deals in the country can be found in places like Louisville, Indianapolis and Chicago, where relatively small reductions in interest rates can push affordability closer to national standards. Long term. At the same time, there will be a huge effort across the country.

“Mortgage rates will not go back to 3%, we will be lucky if we go back to 5,” Yoon said.