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Will Mortgage Rates Surpass 5%? YES

Where are mortgage rates headed? My guess is 5.00% to 5.50% by Dec 31, 2022.

On March 16 the Federal Reserve increased interest rates by 0.25% but they announced they will increase rates during the remaining 6 meetings they will have in 2022. This will push up interest rates in the 5.00% to 5.50% range.

In addition, the Fed will be curtailing their "Taper Program" in 2022. This will put ADDITIONAL upward pressure on longer-term rates such as mortgages. This could possibly add an ADDITIONAL 0.50% to 1.00% to mortgage rates. We have not had rates this high since prior to 2009. The millennial generation has not previously experienced such interest rates and will likely have an adverse reaction. This generation is a significant purchaser of homes, as such, they may have a chilling impact on home purchase volume.

Higher interest rates will impact new home construction than sales of existing homes. This has implications for job formation in this segment of the labor market.

3.17.22 30 year mortgage rate is 4.36%. For a $100,000 loan, the payment is $498. Should rates go to 5.50% the monthly payment would be $568 which is a change of $2.00 a day----see below table. What is bad news for first time home buyers, the income to qualify will increase from $21,360 to $24,345 (i.e. the income multiplier decreases from 4.7 to 4.1)

Following the 2008 Financial Crisis, the Fed cut the Fed Funds rate which decreases short-term rates. At a later date, they started their Quantitative Easing program (QE) which reduces longer-term rates. In a QE program, the Fed buys longer-term Treasuries and Agency MBS financial instruments. By being a buyer, the Fed pushes down longer-term interest rates such as the 10 Year Treasury on which both home loans and commercial real estate are priced/benchmarked.

With the suddenness of the COVID crises in March 2020, the Fed cut the Fed Funds rate 150bp in 2 weeks and at the same time, they started their Taper Program (very similar to their QE program from 2008). The Taper Program achieved immediate results with 10 Year US Treasury rates by 125bp. In response, home mortgage rates feathered down to 3.00% and the housing market accelerated. With the COVID crises behind us, the Fed announced in Nov 2021 that the Taper Program would be wound down. As such intermediary term rates have begun to increase as well as mortgage rates.

For the EXISTING home market, higher rates will slow but not tank it. We had 5.00% rates briefly in 2018 and indeed sales declined. When COVID first hit in March 2020 sales totally collapsed but sharply rebounded as rates went below 3.50%. This likely brought forward demand that was looking to buy at a later date. Millennials have not had to cope with rates higher than 5.00% and this will affect them more than Baby Boom vintage borrowers—who are getting smaller in numbers as they age out.

For NEW home buyers, increases in mortgage rates will likely be more impactful. Note what happened when rates hit 5.00% in Nov 2018----sales materially pulled back. It would have been more profound had rates not decreased shortly thereafter. New home prices are 20% higher than existing and hence will have more debt.


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