Mortgage rates quietly dipped below 7% this week. Will they start a housing market timer stampede? Most likely not yet.
It’s Like Walking Through a Graveyard
Thanks to higher interest rates, walking through a new housing development these days is like walking through a graveyard. My initial reaction is to remember 2007, right before the subprime mortgage crisis.
Yet, the current and highly unnatural lack of activity, is giving me a bad case of the contrarian collywobbles. The disconnect between the apparent lack of interest from buyers, the lack of bullish action in the homebuilder stocks, and, as I describe below, the apparent lack of interest exhibited by some realtors in the face of the supply and demand imbalance and the ongoing demographic shifts suggests that when the dam bursts, the results will be nothing short of spectacular.
Despair is Often a Prelude to a Bottom
For the past several months, I’ve put forth the notion that in the present home buyers are in many ways similar to stock traders in the sense that, as stock traders wait for an optimal entry point before buying shares, potential home buyers monitor mortgage rates closer than ever before making their move.
The key mortgage rate decision point seems to be 7%. Thus, given this week’s dip to 6.99% on the average 30-year mortgage, the next few weeks should be interesting. If there is a surge in home buying, it should be obvious. The problem is that the dip below 7% may not last, as bond traders got spooked by the stronger than expected jobs report.
So why am I sensing despair? That’s because after the most recent climb in mortgage rates above 7%, my regular visual inspection of the selling environment for both existing home and newly built homes has been depressing. Indeed, existing homes are still not selling briskly or for that matter slowly in my neck of the woods. Similarly, new homes don’t seem to be moving as rapidly as they were just a few months ago.
Supply and Demand Imbalance Grows
This is important because the Dallas Fort Worth (DFW) metroplex is still attracting plenty of new residents, as evidenced by the steady number of California, Illinois, and of late Nevada and other out of state plates that I continue to see when I drive around.
Yet, a newly built group of luxury townhomes close by are still sitting empty. A recent Open House in the development yielded little activity. In fact, this is the only open house the realtor selling these homes has held in the three months since the homes were finished. And with more lots to be built in the subdivision, the builder is nowhere to be seen. It’s almost as if they’ve given up.
Similarly, a subdivision just a few blocks away, which is advertising its “final stage” of development, has ongoing construction. And despite it rapidly filling over the last 12-18 months, a few empty lots remain.
Meanwhile numerous apartment complexes in the general area are slowly being constructed. But no one seems to be in a hurry to finish them, and I haven’t seen any “Now Leasing” signs on any of the premises. That’s a big change too.
Further down the road, there are several empty lots destined for single family homes, which are now sporting serious weed growth and whose development stopped when interest rates began a more rapid ascent since January, after streets were paved and plumbing infrastructure was installed. There are currently no signs of any activity on them; not even lawn mowers. The builders have simply walked away.
The Markets Mirrors the On the Ground Reality
The key to the puzzle is interest rates. Prior to the release of the May non-farm payrolls number (NFP) this morning, bond traders were in a good mood, having pushed the U.S. Ten Year Note yield (TNX) below 4.3% and the 200-day moving average.
But as the price chart shows, the stronger than expected number pushed yields back above 4.4%. This means, that unless yields rally before next week, the brief sojourn below 7% for mortgages is likely to be reversed, as the odds of a Federal Reserve rate cut were diminished by the above expectations NFP. What could make yields rally? A bullish CPI report would certainly help. Don’t hold your breath, though.
The NFP news and the rise in bond yields was not lost on stock traders who pushed the iShares Home Construction ETF (ITB) lower with an important support band, the 200-day moving average is now being tested.
If there was a beneficiary, it was the Real Estate Investment Trust sector, as in the iShares U.S. Real Estate ETF (IYR), which remained above its 50-day moving average.
Bottom Line
The supply and demand scenario is tilting further into what should be a bullish scenario for homebuilders and realtors. There just aren’t enough houses to meet the growing demand. But stock traders are focusing on interest rates, not supply and demand. Over the long term, markets trade on supply and demand.
That said, barring a shift in the inflation data in the next few weeks, the odds of a Fed rate cut before the election are starting to fade. That means the short to intermediate term price action will be largely influenced by interest rates.
On the other hand, the longer it takes for the Fed to move, the more the supply and demand balance will tilt toward homebuilders and realtors. When that day comes, the rally in the homebuilders will likely be spectacular.