The Case for Optimism for Housing Market Potential in 2023

Article By: Mark Fleming, Chief Economist, First American Financial Corp.

Housing market potential in 2023 will remain largely dependent on the path of mortgage rates, which will be heavily influenced by inflation. In November 2022, housing market potential increased by 2.5 percent relative to October, boosted by a slight month-over-month decline in mortgage rates. Even with the modest monthly increase in housing market potential, year-over-year potential existing-home sales remain down 18 percent, a decline of 1,164,600 potential existing-home sales. The steep annual decline in market potential is largely the result of higher mortgage rates, which prevent both buyer and seller from participating in the market.

“If inflation decelerates toward the Fed’s target range in the second half of 2023 as is currently expected, then it’s possible that mortgage rates may decline modestly in the latter half of the year.”

Rate-Sensitivity is Real
Median house-buying power in November compared with one year ago fell by $158,000 – that’s the second largest annual decline in over 25 years, only exceeded by October’s year-over-year decline. The primary driver of the decline in house-buying power was the extraordinary increase mortgage rates over the last year. The 30-year, fixed mortgage rate jumped from 3.1 percent in November 2021 to 6.8 percent in November of this year, reducing house-buying power by $170,000, holding income constant. However, household income has not remained static, but has risen, helping prevent the loss to house-buying from being more severe. Such a significant rate-driven decline to consumer purchasing power reduced market potential by 772,000 potential home sales compared with a year ago.

Compared with October, mortgage rates eased a bit, boosting house-buying power by a modest $4,000 and increasing market potential by 25,000 potential home sales. The monthly increase in housing market potential due to the modest 0.1 percentage point decline in the 30-year, fixed mortgage rate demonstrates the rate sensitivity of prospective home buyers. Buyers will jump back into the market if they find a home that fits their monthly mortgage budget, and even a modest decline in mortgage rates can help increase their budget.

The Case for Optimism

There is reason to be hopeful that mortgage rates, and thereby the housing market, will stabilize in 2023. The popular 30-year, fixed mortgage rate is loosely benchmarked to the 10-year Treasury bond, so as the Federal Reserve continues tightening monetary policy to combat inflation, we can expect more upward pressure on Treasury bonds and, therefore, mortgage rates. But the Fed will slow the pace of monetary tightening when there is sustained evidence that inflation is receding, and there is good reason to believe that inflation may slow in 2023. Core goods inflation is already cooling, shelter inflation is expected to do the same in the coming months and, in theory, tighter monetary policy should cool services demand.

If inflation decelerates toward the Fed’s target range in the second half of 2023 as is currently expected, then it’s possible that mortgage rates may decline modestly in the latter half of the year. While mortgage rates will remain high compared with pandemic-era lows, stable and potentially modestly lower mortgage rates will elevate housing market potential in 2023.

Fleming, M. (2022, December 20). The case for optimism for housing market potential in 2023, according to first American potential home sales model. Business Wire. Retrieved December 20, 2022, from https://www.businesswire.com/news/home/20221220005520/en/The-Case-for-Optimism-for-Housing-Market-Potential-in-2023-According-to-First-American-Potential-Home-Sales-Model