Real estate market could be directed by 'where inflation, the Fed is going': Economist

Realtor.com Chief Economist Danielle Hale and Interactive Brokers Senior Economist José Torres discuss the state of the housing market, mortgage rates, rental rates, inflation, the Fed, and the possibility of a recession.

Video transcript

JULIE HYMAN: Yeah, we're looking at existing home sales for the month of April falling by 3.4% month over month to an annual pace of 4.28 million here. So seeing some continuing weakness on the existing home sales. And I should also mention, by the way, we got the leading-- the index of leading economic indicators falling by 6/10 of 1%. That was in line with economists' estimates. But the housing data has really been sort of mixed and confusing, if you will.

I was just noticing, on an anecdotal basis, we keep talking about how tight supply is. But as I was driving around my town yesterday, I was seeing quite a few "for sale" signs. A lot of them were already under contract, though. So it seems like maybe they're still getting-- I don't know. The days on the market has been lengthening a little bit. And I know it's very region specific. But I was surprised to see a new crop of those signs popping up that I hadn't noticed before, for what it's worth.

BRAD SMITH: Is there-- does it seem like there's a lot of traffic going into some of those open houses, too, then?

JULIE HYMAN: I don't know. It wasn't a Sunday. So I can't-- that tends to be the day, right, that you get that kind of stuff. So I'm not quite sure if we're still seeing that traffic. But as we look through the data from the National Association of Realtors and they talk about this stuff, you know, it does seem like that things are kind of muddling along here. And we are not seeing a lot of improvement.

BRAD SMITH: Yeah. And even as we're thinking about where, and you mentioned the regionality, that's going to be amazingly important to keep in context here as we move forward because that will give us an idea of where affordability actually still is right now. When we think about some of the major metropolitan areas and even kind of marrying that to where employment shifts have taken place, too, for those who are still working from home, to Elon Musk's chagrin or not, there is a much larger consideration of where new home buyers, millennials especially, can start taking on home ownership.

And for this period of time, it'll be interesting to see where some of the dust settles on a regionality basis as well, considering the shifts out of some major cities and even into other-- from one major metropolitan area into another that might be more affordable and favorable on a price perspective.

Well, joining us now for more on the state of the economy, and specifically the housing sector, is Jose Torres, who is the Interactive Brokers senior economist, alongside Danielle Hale, who is the retailer.com-- realtor.com, excuse me, chief economist. We've been talking about retail all week. Let's talk about realty right now and real estate here. Danielle, when we consider where the market sits right now, what is a significant trend that you see emerging that could perhaps set the tone for when the housing market starts to come back in full force?

DANIELLE HALE: Yeah, I think if you're looking at when the housing market starts to come back, you've really got to look at affordability. So you've got a good number of people that would like to buy homes. But prices are still high, and mortgage rates are still relatively high. They've calmed down in some recent weeks. But if you look at March mortgage rates compared to February mortgage rates, when a lot of these April home closings we're talking about would have gone under contract, they were still up about a quarter of a percent.

So it's not huge. It's certainly not the leaps and bounds we were seeing, a quarter of a point a week last year. But it does mean mortgage rates are still a bit of a headwind. So I think seeing those mortgage rates come back down to below 6% is going to make a bigger difference for shoppers in the market today.

I think it's also going to help on the inventory side. So we know that a lot of existing homeowners, roughly 2/3, have mortgage rates that are locked in at or below 4%. And so the narrower that gap is between market mortgage rates and the mortgage rates that people hold on their existing mortgages, the easier it is for existing homeowners to make the decision to move and trade up. But right now, the incentive just isn't there. As long as their home is a reasonably good fit for their needs, it's hard to make the case for moving.

JULIE HYMAN: Yeah, that definitely makes sense. Jose, how much of a headwind is this? How much is this holding back overall economic growth that we are not seeing a more robust housing market?

JOSE TORRES: Well, thanks for having me. Well, real estate makes of about 20% of the economy. So when transactions go down, there's a lot of income weakness across, from realtors to durable goods manufacturers to construction companies and all of the above. And really, I think a lot of what is going to determine where the real estate market is going to go is where inflation is going and where the Fed is going.

If you think that rates are going to stay-- long-term rates that is-- higher for longer, then it's hard to make the argument that the real estate market has-- has already hit a bottom. I think as the consumer continues to slow, as the labor market softens, as the unemployment rate ticks up, I think the real estate market is going to soften further in the second half of this year as we descend into recession.

BRAD SMITH: Jose, just to stay with you for a second, what is-- is delivering a new home getting any more easy for companies? Is there any kind of improvement in that side of the housing market?

JOSE TORRES: Well, absolutely. You've had lumber prices come down significantly. You've also had supply chains improve a lot as well. And that's helped builders deliver homes. But again, the affordability situation is a particularly significant headwind. And affordability has been a headwind with a robust labor market. As the labor market begins to slow, pandemic savings begin to dwindle, I'm expecting the housing market to continue to be cool and transactions leading prices, like in earlier cycles.

We're seeing the same thing occur with office real estate. Transactions are down significantly. Prices not that much because sellers are reluctant to want to sell into this market. But eventually, they will have to. And I think the same thing is going to happen in the residential real estate market, albeit at a more tempered level because the work from home headwinds aren't there like they are for office. And residential real estate, of course, is helped a lot by that work from home trend that allows folks to live-- have more flexibility with where they live.

JULIE HYMAN: Danielle, I want to turn to the rental market as well as part of all this because I know you guys just came out with some research as well that there were single-digit growth in the rental market for the ninth month in a row after 15 straight months of declines. It looks like rental rates, median rent, up just about 3/10 of 1%. Is that portion of it good news on the inflation front, that we're seeing that increase in rents moderating a little bit?

DANIELLE HALE: It is. So we've seen, as you mentioned, that moderation in rents for 15 months. Rents were up well above double digits, almost 20%, on a year-over-year basis before then. So it's a significant cooling. And one of the main factors that's been driving inflation recently is shelter inflation. And that includes prices of rents and estimate of owner equivalent rents that are based on market rents. So when we see rents moving up, it tends to push up inflation. Now, we've seen rents growth moderate, as I noted, for 15 months.

Now, the reason we haven't seen that picked up in inflation yet is because the government looks at transaction prices for-- not just transaction prices but rents for all homeowners and renters-- so people living in all housing units-- whereas our data is looking at advertised rent prices. So the market is a little bit faster to adjust for those landlords with vacant units that are looking to fill them to rent. And we're seeing that adjustment slow.

For a lot of renters who didn't move, they stayed in their same unit, their rents grow a bit more slowly than market rents. And so they still have some room to catch up. That's why we're seeing that inflation number continue to tick up. But we do expect we're going to see it slow. In fact, actually, in the most recent data, it dropped down just a tick, from 8.2% to 8.1%. It's not a huge improvement. But I think it's the beginning of a more continued easing in that inflation measure for rentals. And that's really important for overall headline inflation.

BRAD SMITH: Yeah, Danielle, as a person who stuck around New York, I don't want to catch up with the-- with the rate of growth that we have seen in rental. But if there is one thing that could help with how much people are paying for rent on a monthly basis, it could be the number of new buildouts that are set to come online as well. Is that going to mitigate any concern or any of the pain or pressure that renters are paying right now?

DANIELLE HALE: Yeah, absolutely. So we've talked about underbuilding in the housing market, in the for sale market. But that has also been the case in the multifamily market. We just have seen a slower ramp up in response to the aftermath of the last decade. But right now, we have a record number of multifamily units under construction. It's almost as high as the peak of single family construction in the mid-2000s. So there is a significant amount of multifamily that is going to hit the market in the next year or so, and that is going to help.

Rental units have seen a record low of vacancy rates or long-term low vacancy rates up until the most recent quarter. We saw a very modest uptick, above 6%, for the rental vacancy rates. But until those rental vacancy rates get back closer to 7%, I think we're still going to see some pressure on the rental side of things. But with the number of multifamily units under construction likely to hit the market in the months ahead, I think we're finally going to see some easing on the vacancy pressure and the shortage pressure that has helped drive rent increases up so much.

JULIE HYMAN: And, Jose, a broader inflation question as well as we think about these rental rates, as we think about housing prices for that matter, how are you looking at the overall inflation picture and where we are still seeing the most acute upward pressure? We heard, for example, from Walmart today, saying it is still seeing input cost inflation. So how are you thinking about the big picture here?

JOSE TORRES: Well, I think services are the primary driver. And that tends to be particularly sticky. Wages are also rising at a pace that is totally inconsistent with the Fed's 2% inflation target. And like Danielle said earlier, shelter is also cooling. But is it cooling down to a 2% inflation level? And the answer is, no. While rents nationally are cooling, rents in some areas of the country, like in New York City, are at record highs.

So I think taken together, services continue to be the primary threat on the inflationary front. And services are also working itself through expectations. We saw earlier in the University of Michigan's consumer sentiment survey, expected inflation over the long term ticked up pretty dramatically. And that is affecting consumer behavior. That is affecting employer behavior. That is affecting landlord behavior.

And it all looks like we're entering into a new regime of 4% inflation. And if the Fed is serious-- and I think they are with Powell at the helm-- about getting to that 2% target, then further monetary policy restraint is warranted. And under those conditions, I think that, unfortunately, we're going to have a little bit of a soft patch in the second half of this year.

JULIE HYMAN: Well, we will be watching all of that on the housing market and in the broader economy. Danielle Hale, realtor.com Chief Economist, and Jose Torres, Interactive Brokers Senior Economist, thanks to you both. Great perspective on the housing market and beyond here.