Rising mortgage interest rates repel first-time homebuyers

Rising mortgage interest rates caused an alarming 10% decline in potential first-time homebuyers.

Over the last several years, most pundits predicted mortgage interest rates would rise. With the exception of the taper tantrum, a 1% rise in mortgage rates during a six-week period in mid-2013, mortgage interest rates trended consistently downward, nearing record lows again just before the election. For those interested in getting mortgage loans, this is vital information.

Paired with the flawed predictions of rising rates, market analysts were always quick to assure everyone that rising mortgage interest rates would have no impact on the housing market and that people would be able to get home loans with no problem. The economy is strong, they said. Incomes are rising, they said. Nothing could hold back the housing recovery juggernaut.

Well, guess what? It was all bullshit.

Yes, for several years everyone covering real estate succumb to their optimism bias, believed the bullshit, and put on a happy face.

So what’s wrong with a little optimism? An optimistic outlook is certainly essential for happiness and inner peace, but it isn’t quite so helpful when it comes to investments. Boundless optimism fuels asset bubbles of every kind, leading to painful clashes with reality later on.

As skeptics like to point out, reality bats last, and the reality is that rising mortgage interest rates do hurt the market — even in ways nobody counted on.


Study from realtor.com sets drop of those planning to buy this spring at 10%.

New data out today from realtor.com® suggests that the share of first-time buyers planning to buy in spring 2017 fell sharply when mortgage rates began to rise at the end of last year, dropping by as much as 10% since last October.

One of the many reasons first-time homebuyer participation rates are so low is because prices are so high relative to income. The only mechanism by which today’s prices are tenable is through super low mortgage interest rates — and first-time homebuyers are wise enough to figure that out. They know intuitively that rising mortgage interest rates price them out of the market, and they either react with urgency or despondency.

At the same time, the site said, record low inventory levels, higher prices and heavy buyer competition is creating more urgency for active home buyers.

“Last fall, we saw a large jump in the number of first timers planning home purchases, which was very encouraging because their market share is still well below pre-recession levels,” said Jonathan Smoke, chief economist for realtor.com®. “But, as evidenced by their decline in share, first-time buyers are really dependent on financing and affordability is one of their largest barriers to home ownership. This number could continue to decline with anticipated increases in interest rates and home prices.”

I’ve only pointed the fact that rising mortgage interest rates would hurt the market dozens of times over the years, but despite my small doses of reality, the financial media bullshit spin machine kept repeating the mantra that rising rates won’t make a difference.

According to its January survey of active home buyers, 44% of buyers planning to buy in spring 2017 are first-time home buyers. This has dropped significantly since the survey was conducted in October, when 55% of buyers of planning a spring purchase indicated they were looking for their first home.

The average 30-year conforming rate rose to more than 4.2% by the end of December 2016 from 3.4% at the end of September 2016. With average rates today about half a percentage point higher than they were in 2016, a median-priced home financed with 20% down would cost an additional $720 per year in added interest. That equals more than 1% of the median household’s income.

The math is inescapable. Most financial analysts glossed over the math problem by invoking the magical offset from rising wages in an improving economy. Unfortunately, it takes a 12% raise to compensate for a 1% rise in mortgage rates. The 0.8% rise since before the election requires about 9% more income to compensate. Do you know anyone who got a 9% raise in the last two months?

Survey data collected by realtor.com found that first-time buyers were nearly five times more likely than repeat buyers to say they faced challenges qualifying for a mortgage, with affordability ranking highly among first-time buyer concerns. First-time buyers comprised 32 percent of all buyers in November, according to the National Association of Realtors®.

The rise in rates is associated with an anticipation of stronger economic and wage growth, both of which favor buyers,” added Smoke. “At the same time, higher rates make qualifying for a mortgage and finding affordable inventory more challenging. The decline in the share of first-time buyers since October suggests that the move up in rates is discouraging new home buyers already.

The market pundits didn’t anticipate any problems from rising rates, but even I didn’t foresee this one. I expected first-time homebuyers to carry on in blissful ignorance until reality hit when they finally started the process to buy a home. I assumed first-time homebuyers believed the bullshit peddled by others. Apparently, I was wrong, and first-time homebuyers possess a much better understanding of interest rates and affordability than I gave them credit for.

To date, rising interest rates appear to be having the opposite impact on repeat home buyers. Even with the current increases, interest rates remain historically low, and the movement in rates hasn’t yet tipped overall buyer demand down. It has actually sparked demand from experienced buyers trying to close before rates increase further, as evidenced by increased realtor.com® listings views and decreased inventory. In the short term, the rate movement seems to have encouraged rather than dampened overall demand.

This is a foolish, knee-jerk reaction. People already in the market should be impacted least by changes in mortgage rates. If higher rates make the value of their homes decline, it will also bring down the cost of a move-up in proportion.

Even after 51 straight months of a below-normal supply of homes for sale, 2017 is expected to be even more challenging. Active inventory in December on realtor.com® was down 11% compared to December 2015. As a result, the year has started with the lowest inventory of homes for sale at least since the recession, and possibly in decades. Inventory was a challenge all year but a stronger offseason in the fall depleted the available homes for sale even more than is typical.

So we have below normal inventory and rising mortgage interest rates. What can we deduce from that?

Resale sales volumes will crumble, but homebuilders should do well. Even though new homes are priced at a premium, they provide much-needed supply. Builders who provide affordable products will enjoy strong sales in 2017.