How Mortgage Rates Have Fueled Housing Market Potential Amid the Pandemic

Written by First American Chief Economist, Mark Fleming

The early signs of a housing market comeback that appeared in mid-April, rising weekly purchase loan applications, continued to surge through May and into June. In fact, weekly purchase loan applications have now exceeded pre-pandemic levels.

While the coronavirus pandemic continued to negatively impact the domestic and global economy in May, the market potential for existing-home sales rebounded from the April low point, according to our Potential Home Sales Model. In May, housing market potential increased to 4.92 million SAAR, a 6 percent improvement compared with April, but remained 7 percent lower than one year ago. The two biggest drivers of the increase in May are slightly loosening credit standards, which allow more potential home buyers to qualify for financing, and the increase in house-buying power due to historically low mortgage rates.

“Record low mortgage rates are proving to be a powerful motivator and benefit for home buyers in an otherwise challenging time.”

The increase in house-buying power is also a major reason why market potential is not even lower compared with one year ago. During economic downturns, the housing market benefits in one specific way – monetary policy is usually eased to boost the economy, often leading to falling mortgage rates, which increases consumer house-buying power and makes homes more affordable. Relative to one year ago, the potential for existing-home sales declined by 368,120 (SAAR), but it could’ve been worse were it not for the house-buying power boost from low mortgage rates.

Tight Credit Standards, Limited Supply Dampen Housing Market Potential

In May, there were several forces holding back the market potential for existing-home sales. Lenders have tightened their lending criteria to account for the greater likelihood of forbearance and delinquency. Even though lenders eased credit standards slightly in May compared with April, tightening credit still had the largest year-over-year negative impact (565,340 potential home sales) on potential home sales. Additionally, increasing tenure length means fewer homes for sale, further limiting housing supply and reducing housing market potential by 362,440 sales. The supply of new homes for sale also fell relative to one year ago, further reducing the ability to find something to buy, and thereby holding back potential by 1,916 sales.

Low Mortgage Rates Buoy Housing Market Potential

Given these headwinds, the market potential for existing-home sales could have declined by nearly 930,000 sales. Yet, the 30-year, fixed-rate mortgage fell to its lowest level in nearly 50 years in May, boosting house-buying power by 15.3 percent relative to one year ago. The increase in house-buying power resulted in a 354,000 increase in potential home sales, helping offset some of the impact from the credit and housing supply headwinds. Additionally, millennials continue to form new households amid the pandemic, which boosted demand for housing by 152,000 sales. Finally, the continued growth in house price appreciation, which is the result of rising demand against limited supply of homes for sale, positively contributed to potential home sales in May relative to one year ago by 56,000 sales. As a homeowner gains equity in their home, they are more likely to consider purchasing a larger or more attractive home. However, if equity is low, homeowners are likely to remain “equity locked-in” to their home.

Mortgage Rates Expected to Remain Low Through 2021

In the first week of June, many were concerned that the good news from the May jobs report would result in rising mortgage rates. While rates did jump up briefly, they have since fallen back to historic lows. The consensus among real estate and mortgage finance economists is that mortgage rates may fluctuate, but are likely to remain near historic lows through 2021. Our Potential Home Sales Model indicates that even if mortgage rates climbed to 3.5 percent, all else held equal, the market potential for existing-home sales would decrease modestly from 4.92 million SAAR to 4.84 million SAAR. It’s likely that mortgage rates may rise again from their historically low levels, but house-buying power is positioned to remain strong by any reasonable historic standard. Record low mortgage rates are proving to be a powerful motivator and benefit for home buyers in an otherwise challenging time.