Will the Housing Market Crash in 2023?

Will the Housing Market Crash in 2023?

Various data sets suggest the housing market will not crash, but it will continue to correct. We expect this correction in the form of national home price declines of roughly 10-20%. Here's why:

Various data sets suggest the housing market will not crash, but it will continue to correct.  We expect the following will create opportunities within the existing home and contractor markets for 2023:

  • Home price declines of roughly 10-20% following unprecedented home value appreciation
  • Continued undersupply of housing inventory needed to meet high demand
  • Delayed homeowner decisions due to financial priorities and a psychological reset
  • Reduced mobility rates due to high prices and low locked in rates

When Will Housing Prices Drop?

The question that stakeholders throughout the housing industry have been asking for the past two years now is starting to get a clearer answer.

According to a January 2023 analysis of MLS and data and Freddie Mac Survey data from Redfin, compared to January 2022,

  • Pending Sales are down 32% YoY, marking the 11th straight reporting cycle of pending sales dropping more than 30%
  • New Listings of Homes are down 22% YoY
  • Active Listings of Homes for Sales are up 19% YoY
  • It is taking longer to sell a home, with a median days on market up to 42 days, up about 10% YoY
  • Homebuyer mortgage payments are up 36% YoY
  • The 4-week rolling average of the median sale price of homes sold is $350,000, up just 0.5% YoY
  • The 4-week rolling average of the median asking price of newly listed homes for sale is $346,500, up 3.1% YoY

Is Now a Bad Time to Buy a House?

The winds of change are driving the real estate market from a seller’s market into a buyer’s market.

According to an analysis of 50 most populous metros in the U.S. by Redfin, pending sales have been falling most in cities where investor activity largely drove prices up in 2021 and 2022, but owner-occupied homebuyers are currently still priced out of the market. Those local markets include cities like,

  • Las Vegas, NV (-62%)
  • Phoenix, AZ (-57%)
  • Austin, TX (-54%)
  • Jacksonville, FL (-54%)
  • Nashville, TN (-51%)

Cash buyers are getting more wind in their sails as home prices start to drop slightly, while first-time homebuyers will continue to be largely priced out of the market as the Prime rate increases to a forecasted rate of 7.3%, and the 30-yr FRM average hovers around 5.7%, according to the National Association of Realtor’s Economic Outlook Report for Q1, 2023.

The Housing Affordability Index, published by the National Association of Realtors, highlights that, based on a 25% qualifying ratio for monthly housing expense to gross monthly income, with a 20% down payment, the average household income necessary to purchase a home is $98,112 as of October 2022. Compared to October of 2021, the qualifying income necessary was $57,888.33.

The median household income is hovering around $70,000, a shortfall of 29% for the typical earner.

Source: U.S. Census Bureau (2022), Real Median Household Income in the United States, Federal Reserve Bank of St. Louis

NAR’s Housing Affordability Index reports at 91.2 for October of 2022 compared to 143.5 in October of 2021.

Source: National Association of Realtors (2022), Housing Affordability Index

Less than HALF of the prospective homebuyers who qualified for an average priced home in Q1 of 2022 are able to qualify for an average priced home in Q1 of 2023.

 

According to analysis by Redfin, the monthly mortgage payment on a $346,500 home at a 6.48% mortgage rate was $2,254, down 11.2% from the October peak, but up 36.2% from January of 2022.

Source: Redfin; Table 1: U.S. Households Priced Out of the Market by an Increase in Interest Rates, 2022

Changes in Consumer Sentiments Driving Homebuyer Activity Trends

Buyers have an increasing ability to take more time to consider active listings and wait for new listings to compete with current options. Redfin’s MLS analysis shows that the number of homes under contract within the first two weeks of listing is at its lowest share since January 2020, before the real estate boom spawned by monetary loosening at the beginning of Covid.

For two years, now, eager buyers have been asking, ‘When will housing prices drop?’ The reality is that home prices, as of January 2023, are already dropping.

For those that can qualify for a mortgage or make a cash purchase, buyers are no longer forced into tough bidding wars, either. The same MLS analysis calculated the average sale-to-list price ratio, which is currently at the lowest level since March 2020, at 98%. Except for a few local markets that remain hot, buyers can get into homes with offers at asking price and even slightly lower.

As of January 13, 2023, the preliminary results from Michigan State University’s Consumer Confidence Index show an 8.2% month-over-month increase in consumer sentiment (of 64.6), but still a 3.9% decline in consumer sentiments year-over-year (from 67.2).

A special report published in November of 2022 by researchers at the University of Michigan suggests that the current inflationary environment is driving consumers to pull back on spending, and that consumers are less keen to tap into lines of credit for major purchases. This environment marks similar consumer sentiments towards borrowing vs. saving as markets experience in the 1970s.

According to Grant Farnsworth, President of The Farnsworth Group, “There are, indeed, size-able financial implications of monetary tightening causing the 2023 slowdown in the housing market, but the housing market is also driven by consumer confidence, and to what degree consumers feel sure about what’s going to happen. Consumer sentiments drive their attitudes and behaviors towards buying and selling homes, as well as embarking on home improvement projects.”

Changes in Investor Sentiments Driving Investor Activity

According to analysis of county records by Redfin, investor purchases of single-family homes decreased by nearly a third in Q3 of 2022. Investors are backing away from new real estate purchases because

  • Median home sales prices are decreasing
  • The cost to borrow money is increasing
  • Housing affordability issues decrease the pool of available buyers and renters
  • Rent growth is slowing

Source: Redfin analysis of county records; shows the Year-over-Year Change in Number of U.S. Homes Bought By Investors

Investors were driven into the real estate market in 2021 because bond yield rates were, 0.01%, practically zero. That’s no longer the case.

In 2023, there are simply better options than real estate for investors to seek greater returns with less hassle and less risk.

As of January 12, 2023, returns on 3-yr Treasury bonds are 4.6% and risk is low, whereas real estate profit margins are shrinking, risk is high, and hassles are greater.

That is why public investors are trying to offload properties.

In the yield curve rates by the U.S. Department of the Treasury, we see also an inversion in the 3mo/10yr U.S. Treasury, which has been a historical signal that a recession is on the way.

What Factors Are Keeping the Housing Correction from Becoming a Housing Crash?

1. Jobs market still stable and low unemployment rate

 The labor participation rate increased in Q4 of 2022, but is still lower than labor needed. Some of this shortage in labor supply is driven by the rise of the ‘gig economy’ and alternative sources of income.

Source: U.S. Census Bureau (2022), Labor Force Participation Rate, Federal Reserve Bank of St. Louis

Something to remember is that it was cheap to borrow money in 2020 and 2021 and many people took out loans to start a business or infuse additional cash into an existing business since it was cheap to do so.

As borrowing continues to be expensive, businesses have fewer options for infusing cash into their businesses and begin to look at cutting expenses to preserve cash flows.  While some organizations may reduce headcount, many will remove job openings.  This too has an impact on unemployment rates as job openings are part of the calculation.  Therefore, we will see an increase in unemployment rates by default but not a large enough increase to cause unemployment concerns given the amount of labor still needed in the market.

2. Builders Did Not Overbuild

Because material prices were high, labor was low, products were in short supply, and many builders were wary of the risks of overbuilding in a quickly changing market, builders did and could not overbuild based on the level of demand that was present in the market.

While prices for building materials like iron and steel and softwood lumber show signs of improving, overall building material costs are still creating downward pressure on building and home improvement activity.  Look for material prices to continue a slow decline, which will help builders achieve margins while offering a more affordable product to those currently financially displaced from the buyer market.

Source: U.S. Census Bureau. (2022). Producer Price Index by Commodity: Metals and Metal Products: Iron and Steel, Nonmetallic Mineral Products: Ready-Mix Concrete and Lumber and Wood Products: Softwood Lumber. Federal Reserve Bank of St. Louis.

As of November 2022, both Single-Family starts down significantly.  Although Multi-Family starts are holding strong, total starts down to 2020 levels because of the quick decline in single-family. Total single-family permits issued during January-November 2022 was 10.5% below the total compared to the prior year.

Source: U.S. Census Bureau. (2022). Monthly New Residential Sales, 2022. and National Association of Realtors. (2022). “Existing-Home Sales.”

Source: NAHB, Eye on Housing, Single-Family Permits Decreased in November 2022, Pub: January 2023

3. Existing Home Values

In 2021, existing home values surged upward—more than a 20% YoY increase. As new home prices continue to increase due to building costs, the value of existing homes increases in step.

Source: U.S. Census Bureau. (2022). Monthly New Residential Sales. and National Association of Realtors. (2022). “Existing-Home Sales.”

The average homeowner has historic levels of home equity they can tap into. In owner-occupied situations especially, the owner has greater incentive to keep the property and leverage equity gains to embark on repair and remodel projects to fit their lifestyle needs instead of upgrading or downsizing to their lifestyle needs.  

Higher mortgage rates, ongoing low housing inventory, and high home prices will reduce mobility and provide opportunity for larger, existing home projects in 2023.  Even with a slight decline in home values, equity will remain at historic highs and provide a funding source for improvements if necessary.

Upcoming Factors to Watch

1. Changes in Housing Inventory Levels

Even with largely risk-averse builder sentiments throughout 2021, there was money to be made, so builders did build. We see Q4 of 2022 ending with a nearly 9-month supply of new residential construction.

That is in stark contrast to just over 3-month supply of existing homes, which is keeping the total housing supply well below 6 months, which is the benchmark for a healthy housing market.

Source: U.S. Census Bureau. (2022). Monthly New Residential Sales, 2022. and National Association of Realtors. (2022). “Existing-Home Sales.”

Watch this average figure in the coming months; we’ll be looking for any continued increases in the supply of new homes especially, since builders do not benefit from holding move-in-ready new construction.  As supply increases, prices may decline, or incentives may increase to move inventory.

Supply of existing homes will continue to remain low as property owners choose not to list their property and opt to repair and remodel their homes to fit their changing lifestyles and stages of life.  Plus, the majority that have a mortgage payment are incentivized to stay put in their home with a mortgage rate that may be half of today’s rates.

In 2006 through 2010, leading up to and just following the housing crash of 2008, the total housing supply was 12 months to nearly 24 months of supply at the worst of it. We’re not seeing close to that level of risk based on the supply and demand factors outlined previously.

2. Changes in Federal Interest Rates

The next Federal Reserve meeting is on February 1, 2023, where they are expected to announce another slight rate hike.

The good news is that we are beginning to see rates mellow out.   We expect 30-year mortgage rates will settle around 6%, which is still historically low.  With these rate changes will come a lagging adjustment for buyers to reset their expectations, and once they do, they will begin to look for homes once again. Gone are the days of 2.5% mortgages, which we may never see again.

3. Continue to Watch Consumer Sentiment Across the Economy

As the dust settles from a year of interest rate hikes, consumer sentiment will also start to stabilize.

Watch the Rental market as that is driving investor behaviors of whether to hold or sell residential properties.

Advance buying motives is an aspect of inflationary psychology to keep an eye on. According to a report on advance buying motives published November 18, 2022 by the Surveys of Consumers research team at the University of Michigan,

“More recently, the prevalence of such motives has risen from a low point in 2019 but has not reached the elevated levels preceding the inflationary spikes that began in the 1970s. That said, in the 1970s, it took a longer period of high prices for such an outlook to set in, and once it did, it returned quickly and repeatedly after waning. Therefore, the possibility that such motives may continue to climb remains in play. In today’s context, one of the factors that has discouraged buying in advance is the lack of supply of durables, vehicles, and homes to buy. Consumers have begun to perceive that supply constraints for durables are easing, and if availability improves more broadly, consumer attitudes could shift quickly.”

Source: Five Patterns in Consumer Responses to Inflation (2022) Joanne Hsu, PhD, Director, Survey of Consumers, University of Michigan

Think back to just before Thanksgiving in 2022, when Jeff Bezos advised consumers to postpone purchasing big ticket items. In understanding the risks to the economy and the nature of rising advance buying motives as a driver of faster inflation and deeper recessions, juggernauts of the consumer market are looking for ways to direct the psychology of the consumer towards saving and spending on daily essentials to preserve consistency of their cash flows.

What This All Means for the Outlook of the Home Improvement and Building Materials Market

Within the home improvement industry, we can work to similarly educate consumers on the value of repairing and maintaining their properties and establish tactics of taking measured action on urgent and important maintenance items, especially as the average age of housing continues to increase.

Educating homeowners on the value of remodeling that increase resale value is another strategy to keep consumers engaged in home improvement activities and improve your retail sales figures.

Based on the market data and consumer sentiments, our team at The Farnsworth Group anticipates share of sales to increase for repair and remodel related building products in 2023, particularly those associated to contractor installed projects.

According to the Leading Indicator of Remodeling Activity (LIRA), published by the Joint Center for Housing Studies of Harvard University, remodeling activity will remain elevated when compared year-over-year, despite the onset of quarter over quarter slowdowns.

Source: Leading Indicator of Remodeling Activity (2022) The Joint Center for Housing Studies, Harvard University

The DIY market represents nearly 100 million households (across both renters and homeowners). In 2022, the DIY market is worth just under 6 billion dollars according to the Home Improvement Research Institute.  HIRI expects the DIY market to remain flat in 2023 with many DIYers having taken on projects in the past two years.

And residential trades remain confident, in stark contrast to NAHB findings of the lowest builder sentiment since 2012 as of October 2022.

In a conversation on the NHPA's Taking Care of Business Podcast, our President, Grant Farnsworth reiterated,

"There is still some opportunity for growth, but you've got to be competitive in 2023. You're going to have to fight for share, you're going to have to fight to maintain loyalty."

Your Next Steps for 2023

You and your teams can still succeed in 2023 by:

  • Understanding where your demand is coming from
  • Knowing what’s driving purchase decisions
  • Updating your pricing strategy
  • Focusing on brand loyalty measures
  • Re-instilling a competitive mindset

Building product brands need to continue to invest in various facets of product development, brand equity, distribution strategy, and marketing to satisfy customer expectations and maintain market share in an increasingly competitive retail environment.

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