Experts say the U.S. residential real estate market is approaching the point at which it may become disadvantageous to wait any longer to buy or sell a home. Home prices are on the rise, which is good for sellers, but interest rates are also likely to rise, which will hurt both buyers and sellers. While it’s nearly impossible to predict when or how much mortgage interest rates will rise, what experts can agree upon is that higher rates cause people to spend less. Although stats show that buyers are pulling back now due to incremental increases, analysts predict they’ll be back soon enough when they really start to rise. For more on this continue reading the following article from TheStreet.
Homeowners who've wanted to sell should be cheered by recent news of rising home prices, easier lending terms for buyers and general economic improvement that encourages house hunting.
But the silver cloud has a dark lining: Rising interest rates can undercut home prices.
Like buyers, who need to get a move on before rising rates make homeowning more expensive, sellers should be careful not to wait too long. Rising mortgage rates are hardly a crisis, as they're still low by historical standards, but prospective sellers should keep the rate and price relationship in mind as they plot their strategies.
Unfortunately, it's impossible to say the exact effect on prices of a 1, 2 or 3 percentage point rise in mortgage rates, as so many factors affect home values. But the principle is simple enough: Rising rates make monthly payments bigger, reducing the maximum buyers can spend. That, inevitably, affects prices to some degree.
Rising rates, of course, also have a psychological effect, causing some buyers to wait for rates to come down and making others give up the search altogether. Data from the mortgage industry suggest buyers are pulling back a bit now, disturbed by recent rate increases. But in coming months, many may change their minds, realizing that even if they missed the cheapest deals, rates are still low -- and lower than they're likely to be in a year.
So what do the calculations show? The Maximum Mortgage Calculator provides one way to look at the price/rate relationship.
With the default inputs, a person with a $4,000 monthly income could afford a monthly payment no higher than $805. That would support a $134,267 mortgage at a 6% rate. Change the rate to 4.5%, about today's level for the 30-year fixed-rate loan, and the maximum mortgage jumps to $158,876.
So, if rates were to rise from today's 4.5% to 6%, a level that has been common in the past, this buyer would have $24,609 less to spend. Looked at another way, a 1.5 point increase in mortgage rate would reduce this buyer's buying power by about 18%.
If that seems surprising, note that raising the rate to 6% from 4.5% is a 33% increase, producing a much larger monthly payment for a given loan size.
As mentioned, this just illustrates the principle, and it doesn't mean home prices would fall 18% if mortgage rates rise. For one thing, the seller needs only one buyer, and there may be plenty of others who can afford the home even with higher rates. After all, not every buyer applies for the biggest loan that would be permitted. Those planning to spend less than the maximum may still be able to afford the home with the higher payment.
But there's no doubt that higher borrowing costs cause people to spend less. That's the principle the Federal Reserve counts on when it raises interest rates to cool the economy, or lowers them to heat it up.
Today, the would-be seller should be on the lookout for a sweet spot in market conditions. That will be the point at which home prices have gone up from today's level, but mortgage rates remain low enough to bring lots of buyers into the market.
If price gains start to level off, the seller should probably get the home on the market quickly, else rising rates shave the sales price.
This article was republished with permission from TheStreet.