Yielding to Reality

Mike Zaccardi

IN THE MARKET FOR a home loan? Chances are, you aren’t pleased. Amid soaring real estate prices and intense demand, mortgage rates have climbed above the psychologically important 5% threshold. Mortgage News Daily published its rates update on Friday afternoon, and the figures weren’t pretty for prospective borrowers. The 5.06% average 30-year fixed-rate mortgage is close to the highest mark since late 2008.

Meanwhile, over the past 12 months, home prices are up 19.2%, as measured by the S&P Case-Shiller U.S. National Home Price Index. That figure doesn’t reflect price changes since January, so we need to use other data to gauge whether the real estate market is cooling.

Both Zillow and Redfin report robust home-price appreciation for the 12 months through February. At 20.3% and 15.8%, respectively, those barometers still don’t capture the dramatic rise in borrowing rates over the past handful of weeks.

Conventional 30-year fixed-rate mortgages are priced off the 10-year Treasury yield. Currently, the 10-year note is at 2.71%. Historically, the 30-year mortgage rate averages about 1.7 percentage points above the yield on the 10-year note. That implies an expected home loan interest rate of 4.5%. The spread is higher than normal right now, much to the chagrin of those in the market for a mortgage. The rapid rise in market interest rates might be spooking lenders. Also driving the higher spread could be the Federal Reserve’s plan to shrink its mortgage-backed securities portfolio.

The 10-year Treasury yield was near 1.7% on March 4. In just 25 trading days, it has skyrocketed to above 2.7%. On a percentage basis, that’s the most dramatic move in at least 40 years. Real estate price trends should be fascinating—and sobering—over the next few months.

All of this, of course, means a big hit to housing affordability. Hot off the presses on Friday was February’s housing affordability index from the National Association of Realtors (NAR). Affordability is the worst since 2008. Imagine what the report will look like two months from now when the surge in mortgage rates gets factored in. Bank of America Global Research expects the NAR affordability index to post a record 30% year-over-year drop.

What will this mean for the consumer? Perhaps retail sales will be pressured by the rising cost of servicing mortgages, though presumably those higher costs will only affect current home buyers and those with adjustable-rate mortgages. We’ll get a fresh read on consumer spending in Thursday’s retail sales report. Another potential shift is an increase in renting, as the cost of owning continues to march higher.

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