Fed’s Decision to Keep Interest Rates Low May Sink Home Prices in 2022

Chapman University economist sees home prices falling as much as 10% two years from now. But a Wells Fargo economist says prices will keep rising over the next few years.

By Jeff Lazerson | jlazerson@mortgagegrader.com | MortgageGrader.com | June 19, 2021.

Sometimes you just have to take the punch bowl away for the greater good.

Too bad Federal Reserve Chairman Jerome Powell and his merry men and women don’t have the backbone to end the Fed’s zero-interest-rate policy and $120 billion per month bond-buying binge.

Concerned about promoting maximum employment and price stability goals at 2% with the coronavirus not fully contained, the Fed doesn’t plan to raise short-term interest rates until late 2023, Chairman Powell announced after this week’s Fed meeting.

What is the problem with waiting longer to raise the cost of cheap money when the price of everything from groceries to gasoline to rents and real estate are quickly climbing?

In a word, inflation.

Inflation occurs when the price of goods and services increase over time, effectively reducing the amount of goods and services you can buy with a dollar in the future compared to a dollar today.

Well-regarded Chapman University economists see signs of trouble ahead for home prices should inflation continue on its current path.

Raymond Sfeir, director of Chapman’s Anderson Center for Economic Research, noted that California home prices have gone up 39% in the year ending in May.

“That’s crazy,” he said.

Sfeir sees home prices falling as soon as the second half of next year as interest rates rise to keep up with inflation.

He sees mortgage rates at 3.4% by the end of the year, 4% by the second half of next year and 4.5-4.7% by mid-2023.

“Home prices will drop 10% two years from now.”

A different view comes from Charlie Dougherty, an economist at Wells Fargo Securities, who predicted home prices will continue rising over the next few years. He sees mortgage rates landing at 3.5% by year end and 3.9% at the end of 2022. He sees positive price appreciation over the next few years.

But, he added, “home prices won’t continue to grow at 20%.”

Do you remember the Jimmy Carter days when inflation topped 13%?

I see more and more inflation momentum that needs to be slowed down.

Rightly so, the Fed dropped short-term rates to about zero and started binging on bonds to grease the economy with lower borrowing costs right after the killer COVID-19 pandemic hit.

Then is then, and now is now.

The economy has been chugging along and growing nicely for several months — even before vaccines were widely distributed. Mr. Powell must learn when to say when.

Soft landings and even soft takeoffs are always more manageable. When inflation kicks into higher gear, it’s like a runaway truck.

How about some fun facts to measure against Powell’s 2% inflation goal?

The Consumer Price Index, or CPI, jumped 5% in the 12 months ending in May. That’s a 13-year high.

The U.S. Labor Department reported a 6.6% jump in the May Producer Price Index (prices suppliers charge to businesses) compared to one year ago.

This week, CoreLogic data showed an April year-over-year national rent increase of 5.3% compared to April 2020.

The average price of a California home is currently $818,000, according to Chapman University figures.

Assuming a $500,000 loan amount, the principal and interest payment at today’s Freddie Mac 30-year fixed rate of 2.93% is $2,092.

Using Chapman’s numbers: at 3.4%, the payment would be $2,220; at 4%, it would be $2,389; and at 4.6%, principal and interest payments land at $2,565.

We are witnessing a staggering 22% payment increase if Chapman’s predictions for the next two years comes true.

The Fed’s updated plan calls for two short-term rate increases by the end of 2023.

“I wouldn’t be surprised if they make it three rate increases,” Sfeir said.

Freddie Mac rate news: The 30-year fixed rate averaged 2.93%, 3 basis points lower than last week. The 15-year fixed rate averaged 2.24%, 1 basis point higher than last week.

The Mortgage Bankers Association reported a 4.2% increase in mortgage application volume from the previous week.

Bottom line: Assuming a borrower gets the average 30-year fixed rate on a conforming $548,250 loan, last year’s payment was $59 more than this week’s payment of $2,293.

What I see: Locally, well-qualified borrowers can get the following fixed-rate mortgages with 1 1/4 point cost: A 30-year FHA at 2.25%, a 15-year conventional at 1.99%, a 30-year conventional at 2.625%, a 15-year conventional high-balance ($548,251 to $822,375) at 2.125%, a 30-year conventional high-balance at 2.875% and a 30-year fixed jumbo at 3%.

Loan of the week: A 30-year fixed at 3% without cost.

Jeff Lazerson is a mortgage broker. He can be reached at 949-334-2424 or jlazerson@mortgagegrader.com. His website is www.mortgagegrader.com.

* Specific loan program availability and requirements may vary. Please get in touch with your mortgage advisor for more information.