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  • US Housing market is in free-fall.
  • US consumers (that is all of us) are struggling.


US Housing Market is in free-fall:

Of the thirteen generally recognized sectors of the economy, housing is the most sensitive to interest rate changes because the ability to purchase and finance a home is directly related to the current interest rate environment. Mortgage interest rates are affected first by the current rate environment, and then a premium is added to that rate based on factors like the length of the loan, your personal credit rating, how much down payment you included, and even the location of the home itself. Lower interest rates make borrowing much easier, and you can borrow more and still afford the payment. This is true for home buyers, corporations, entities like cities and local school districts, and even national governments. Higher rates have the opposite effect; they make it more and more unaffordable to borrow much money as rates climb.

A little bit of background: In January 2022, the average 30-year US mortgage rate was just barely over 3%, and housing had enjoyed almost 15 years of artificially low mortgage rates (compared to historical averages) due to the actions of the Federal Reserve following the last Great Financial Crisis of 2008-2009. The Fed held interest rates artificially low following the Great Recession for a decade, to help stimulate the US economy to recover. They began raising rates slightly again in 2018 and 2019, but when the Covid-19 pandemic in 2020 caused world governments to close entire economies, part of the monetary “rescue plan” was to lower rates again, all the way to 0% for the Fed Funds rate (that’s the lowest and shortest-term loan rate in the entire economy – the rate at which banks borrow from the Federal Reserve). This lowered mortgage rates to historical lows in 2020 and 2021 and allowed housing prices to skyrocket, as most home buyers could afford a more expensive home with the borrowing rate so low.

To combat the inevitable inflation that would come after too-low rates for too long (plus the massive amount of stimulus money the world governments provided during the Covid shutdowns), this year the Federal Reserve and many other central banks began a series of actions to reduce the supply of available money and make it more expensive to borrow. This would deliberately “cool off” the economy and lower the demand for rising wages and prices. But the first sector of the economy to feel these changes, as we said earlier, and warned our clients as early as March of this year, would be housing.

Sadly, this prediction is coming true. The indicators we watch in housing all point to a substantial collapse in housing and mortgage activity.

US Housing Market:

Of the thirteen generally recognized sectors of the economy, housing is the most sensitive to interest rate changes because the ability to purchase and finance a home is directly related to the current interest rate environment.

First, a look at what’s happening. The combination of record-high home prices from the last few years, and now the highest mortgage interest rates in over 40 years have created a huge problem for US consumers: buying a home has never been less affordable.

Housing Costs to Income Ratio. Source: The Daily Shot

This is definitely having an effect on the number of homes being purchased, and price reductions on houses are becoming much more common on currently listed homes for sale. And since the price of other home sales in your neighborhood will affect the going price of your home, this alone will start to cool off some of the housing market.

The higher interest rates have made current house prices simply unaffordable for the majority of home buyers. We have already seen the number of mortgage applications fall by 40% from a year ago and are now the lowest since 2014. Major lenders have already begun laying off much of their mortgage lending staff. Some mortgage companies have gone out of business already:

US Mortgage Applications Oct 2022 Source: The Daily Shot


There will be three additional major moves in the housing market that we believe will occur over the next 18-36 months:

  • First, home buyers will drastically reduce the sale price on their homes. This is unavoidable as the number of buyers will dry up. A family who could qualify for a home in January (when mortgage rates were 3%) will likely not qualify for that same home when rates are approaching 8%. The only way to get that buyer into the home is to dramatically reduce its asking price.
  • Second, as recession hits the larger economy, we will sadly see layoffs increase and small business failures. The loss of income for many, coupled with the collapsing value of homes, will cause many people to walk away from the homes they are financing now. We should see an uptick in “fire sales”, “motivated sellers” and other such rhetoric from the real estate market, followed by an unfortunate uptick in repos and foreclosures.
  • Third, sellers will slow the number of homes going to market, because the conditions won’t be favorable for them to sell as home prices plummet. This, combined with the eventual lowering of interest rates again as the economy deteriorates. This will stabilize house prices near a market bottom.Bottom Line: This is quickly becoming a very bad time to sell a house, but that will become a very good time to buy one. Families seeking to buy a home in the next year or two will likely get the opportunity to do so at much lower prices than today.

The U.S. consumer is “tapped out”.

The most obvious impact of the stimulus spending our governments did during the Covid-19 pandemic is that prices skyrocketed on almost everything. We warned our clients as far back as August 2021 that prices, particularly oil prices, were major factors in a coming economic slowdown, and started moving our clients out of traditional investment models and into macroeconomic data-dependent models in January of 2022.

Consumer prices are important because in most of the developed world, you and I spending our wages – economists call this “consumption” – makes up more than 70% of the economy.  When we have lots of money to spend, the economy does well. When we struggle to pay for our basic needs, the economy stagnates or recedes.

Needless to say, 2020 through today has been a very hard time for most consumers. With the stimulus money dropped into the economy from the Covid shut-downs, money that wasn’t productively created through industry but instead simply printed and distributed by the treasuries of the world, we had many more dollars floating around to buy things, but the same (or fewer) things to buy. This is what caused prices to soar. The only remedy will be to reduce the money supply over time, which the Federal Reserve and other banks are in the process of doing with a series of actions collectively called quantitative tightening, but this means they must intentionally damage the economy and cause job losses and even company failures to do so.

We believe the world governments directly caused this calamity by first locking us down unnecessarily, then doling out too much money to keep things moving through the shutdowns, and then taking far too long to reverse course after the world re-opened for business. If our firm here in Colorado could see inflation as a serious economic problem as early as the summer of 2021, surely the world banks saw the same?

But we digress.

High prices across the entire economy have a devastating effect on household budgets, particularly with seniors and others living on fixed incomes. This is because wages tend to be “sticky”; they don’t rise as fast or as much as current prices have. How often do you get a raise at work? For most families, it’s once per year, and maybe 2-3% is a normal wage increase (this is because 2-3% has been the average rate of inflation for the last 30 or so years).

What we have facing us now are prices that have climbed roughly 15-20% on nearly every item we buy, over the last two years, and our wages have definitely not kept up.

Our economic analysis is simple in this regard: the consumers of the world are “tapped out”. We can see this in terms of how much we are saving each month, and also in our credit card usage. Personal savings rates are at record lows after we initially put much of that 2020 stimulus money in the bank:

source: tradingeconomics.com

Those reserves are now being rapidly depleted to keep up with basic needs, and our credit card usage is soaring (along with delinquency rates on making those payments). Additionally, we are seeing consumers now having to make choices as to where they spend their money, and discretionary purchases like a new car or appliance, other than basic clothing, vacations, travel, and other “discretionary” purchases, are rapidly declining. Economists predict this trend to continue going forward, as energy prices (oil and gas) are poised to increase again in the coming weeks.

US Consumer Spending. Source: The Daily Shot

Bottom Line: We will talk more about the state of the consumer in next week’s economic update, but for now, just understand that we are spending more overall but basically just for things like rent, utilities, groceries, fuel costs, and health care. These basic products and services, which economists call “consumer staples”, are likely to be one of the few parts of the economy that hold up during a coming recession.

Ultimately, consumer sentiment (how we all feel about the economy, and how we handle our money accordingly) becomes a self-fulfilling prophecy. When we are not confident about our financial security in the future, we start spending less now. This causes the companies whose products and services we buy to begin to slow down production, which causes layoffs, and the economic cycle turns to recession.

US Consumer Confidence Indicators. Source: The Daily Shot


Watching This Week:

  • Producer Prices (always a precursor to consumer prices)
  • Retail Sales as we head into the holiday season
  • Labor Market Update
  • Housing Starts
The views and opinions expressed in this economic outlook are for information purposes only and are not intended to be financial advice. nVest Advisors, LLC does not provide specific investment or financial planning advice to a client without an executed client service agreement. nVest Advisors, LLC does not trade directly in commodities or cryptocurrencies. Economic data changes rapidly; no warranty is expressed or implied about the reliability of this data once published. Although the information provided here is derived from authoritative sources, we cannot guarantee the accuracy of this information. Please see our general disclosure page for additional details.