Mortgage Rates Rising

Information released by the Federal Housing Finance Agency, (FHFA) indicates that mortgage rates on purchases of newly built homes continued to increase in December 2016. After rising by 5 bps in November, contract mortgage rates increased by an additional 19 basis points in December. As of the end of 2016, the contract rate sits at 3.78 percent.

The December rate increase on purchases of newly built homes coincides with a 10.4 percent decline in sales of new homes in the same month, sparking some concern that rising rates may be impacting the pace of sales. This impact will be evaluated in the coming months.

Although a previous post asserted that rising rates have a small impact on the level of home sales, because other economic variables also play a factor, a rapid increase in rates in a relatively short period of time may have an impact on sales. To test this possibility, first the monthly difference in contract rates on newly built homes reported by FHFA is calculated for each month in the sample. Then the monthly difference in new home sales is calculated for each month. The monthly data covers the years of 1973 to 2016. Each of the monthly rate changes are ranked from the greatest monthly increase to the highest monthly rate drop and these differences are separated into 5 equal buckets with the corresponding change in sales attached. The median rate change and the median change in sales are calculated across each of these buckets.

Many of the largest rate increases and declines are concentrated in a period that includes the late 1970s and early 1980s. Following this period, rate changes were comparatively less volatile as rates continued to decline. The December increase of 19 basis points is a large move in historical terms.

Figure 3 shows the median change in sales across each class of rate changes. The median monthly change in new home sales for monthly rate changes in the bottom 20 percent of the rate change distribution, monthly declines of 11 basis points or more, was +6,000 sales on an annualized basis, or about 1.4 percent of the median annualized number of sales in this bucket, 433,000. Meanwhile, the median monthly change in new home sales for the monthly rate changes in the 80th to 100th percentile, spanning increases of 10 basis points to 164 basis points and includes the December 2016 rate change of 19 basis points, corresponded with a median monthly decline of 11,000 new home sales on an annualized basis, 1.7 percent of the median annualized number of home sales in this bucket, 660,000.

This exercise was meant to isolate the correlation between changes in new home sales and rapid monthly changes in mortgage rates. Figure 3 suggests that for the bulk of monthly mortgage rate increases, those between the 40th and 80th percentile, the median decline in sales is less than 1.0 percent, about flat. However, a monthly rate change exceeding 10 basis points correlates, in aggregate, with a more noticeable, albeit still small, decline in sales.

Although this exercise provides evidence that a rapid increase may impact the change in sales, there are many caveats that should be taken into account. First, correlation does not mean causation. The change in sales may reflect other economic variables that are also changing as well and also impacting mortgage rates. Second, the impact of monthly changes in rates may be stronger on subsequent months, or even previous months, than in the current month. For example, buyers anticipating rapid rate increases may decide to purchase a new home now. Third, the likely outcome for a relatively higher monthly change in rates is a decline in sales of 1.7 percent. The 10.4 percent decline in sales actually recorded in December may suggest that other factors, including statistical noise should be considered.



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4 replies

  1. Many builders are not aware but buyers do not buy based on price, they buy based on down payment and monthly payment. While they usually use price as a screening tool in deciding what to look at, they buy based on their up-front and recurring cost. Now would be a very good time for building to buy forward mortgage commitments to keep interest rates within reason. Using a rate cap commitment (buyer will pay market rate but the maximum rate is capped) is the best and most affordable. Builders should also consider temporary mortgage buydowns to show potential buyers the lowest possible initial monthly payment. Talk to your mortgage lender(s) about this and, if they don’t know what you are talking about, get yourself another lender.

  2. Very informative blog.I got enough knowledge regarding present real estate situation. Thanks for sharing.

  3. For most borrowers, the interest rate is a key factor into how much home they can buy, not whether or not they want to buy. Any spike in interest rates is likely to cause a near-term disruption in sales; unless interest rates continue to climb, the effect is usually short-lived. Borrowers adjust, and there is often enough elasticity in new home prices that some offset in the form of lower price that can be achieved. Conversely, steady increases in mortgage rates (and corresponding downward pressure on the amount of mortgage a given income can carry) can ultimately have a constricting effect on sales as buying eventually becomes concentrated in lower price tiers, exhausting supplies.

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