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Hidden effects of rising rates

March 15, 2018

There have been some serious ups and downs when it comes to shifting mortgage affordability in recent years, with some consumers shying away from the market as rates rise, and others being undeterred from entering it despite huge increases in home values. However, there is now some reason to believe that if conditions continue in the way they have, the market could radically shift in the months ahead.

Mortgage rates today are in the low- to mid-4 percent range, and that's quite low compared with pre-recession norms, which sometimes reached as high as 6 percent or more, according to Zillow. However, continued increases in mortgage rates could pose problems in the market soon simply because of how much higher they would start to price many consumers out of home purchases in most large markets.

"17 of the 35 largest markets will see low affordability."

Indeed, if rates hit 5 percent before the end of the year and home prices keep rising as they have (both of which are expected to happen), 17 of the nation's 35 largest housing markets will carry lower affordability than historical averages, the report said. When rates hit 6 percent, that will be true for 20 of those major cities.

An unexpected effect?
Meanwhile, higher rates may lead to difficulty in the housing market in other ways, by disincentivizing current homeowners from selling their properties after locking in rates while they were at or near all-time lows, the report said. While it's unclear just how much this "mortgage lock-in" issue will affect the inventory of existing homes being put on the market, but the issue could become a significant impediment to broader home sales.

However, the typical mortgage payment in the U.S. last year made up just 15.7 percent of the median household income, versus 21 percent on a historical basis, and rates would likely need to exceed 7 percent to get back to the latter level, the report said. As such, it's difficult to predict just what impact declining affordability will have on the market any time soon.

A widespread issue
Some estimates showed that the vast majority of homeowners nationwide either purchased a property or refinanced an existing mortgage when rates were at or near their lowest levels ever, and with the spring buying season right around the corner, that could present a major impediment to housing activity, according to The Wall Street Journal. At this point, every minor increase in mortgage rates will likely price even more current owners out of feeling as though selling - and therefore needing to obtain a mortgage, in most cases - will not be worth it financially, even as prices continue to grow at rates well above historical averages.

This could have a significant depressive effect on homebuying activity going forward, even as demand among would-be purchasers continue to flood the market and drive up prices for the relatively limited supply of homes for sale, the report said. That, in turn, could lead to more competition and price increases in the months ahead, further pricing additional shoppers out of the market.

A closer look at mortgage rates
At this point, most readings show mortgage rates hovering around 4.5 percent and 4.6 percent, inching up slowly most weeks, according to The Mortgage Reports. This comes as many aspects of the economy are improving - such as falling unemployment and rising stock prices - but yields on Treasury bonds seem to be in something of a holding pattern. Typically, Treasuries are seen as a strong indicator of near-future mortgage rate movements, meaning that if they are holding steady or declining, home loan affordability is likely to follow suit.

This presents an interesting issue for would-be buyers to navigate, because while they may face higher up-front costs when locking in a mortgage rate now, doing so will likely pay off in the long run, potentially saving tens of thousands of dollars over the life of a mortgage, the report said.

With these issues in mind, it's vital for consumers to put in the work to get into the market as soon as they can, before rates and prices reach a tipping point of unaffordability. Working to improve the size of a down payment and build a better credit score in the next few months could seriously pay off for years to come.




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