Potential is defined as the latent ability of something to develop into something greater in the future. Currently, the housing market is trying to find a new “post-pandemic normal” in an environment of rising interest rates, record inflation and seemingly never-ending house prices.
First American financial company latest report, Potential home sale model covering June 2022, outline their forecasts of what the healthy level of home sales in the market should be based on economic, demographic and housing market fundamentals.
According to the report, potential existing home sales declined to 5.47 million seasonally adjusted annual rate (SAAR), down 2.5% month-over-month. This represents a 59.9% increase from the potential record low recorded in February 1993.
On an annual basis, the market potential for existing home sales was down 13.1% year over year, a loss of 822,786 sales.
Currently, the potential for existing home sales is 1,320,000, or 19.4% less than the peak of the market’s pre-recession potential, which occurred in April 2006.
“Market potential for existing home sales in June was estimated at 5.47 million at a seasonally adjusted annual rate (SAAR), down 2.5% from last month and 13.1% lower than ‘a year ago, which is close to the same level as at the start of 2019,’ said Marc Fleming, chief economist of First American. “While housing market potential remains strong from a historical perspective, it is down from pandemic highs. To understand why, one needs to look at how the fundamentals that drive the potential for existing home sales have changed since June of last year. We can also examine what these changes mean for the potential of the housing market in the near future.
“Compared to June 2021, the market potential for existing home sales has decreased by approximately 823,000 sales,” Fleming continued. “Based on a dynamic simulation using our model of potential home sales, we can identify the fundamentals that influence the potential sales of existing homes today versus a year ago and segment them based on the fundamentals that reduce or increase the potential of the housing market.”
Fleming also gave a brief overview of some market conditions that affect the potential number of home sales both negatively and positively:
Fundamentals Reducing the potential of the housing market
Decline in the purchasing power of a house“The purchasing power of a home is the amount of home you can afford to buy given household income and the prevailing 30-year fixed mortgage rate. Mortgage rates in June were 2.5 percentage points higher than they were a year ago. Holding household income constant at its June 2021 level, rising mortgage rates reduced the purchasing power of a home by $123,500,” Fleming said. “A 4.4% annual increase in household income has helped to mitigate some of the impact of rising rates on affordability. After adjusting for higher household income, home buying power has fallen by $108,000 since June 2021. The overall decline in home buying power has reduced housing market potential by 522,000 potential home sales.
Tighter credit standards“When lending standards are tight, it becomes harder to qualify for a mortgage to buy a home. Likewise, when standards are loose, it is easier to get a mortgage and buy a house. When home buyers are less likely to receive mortgages for a new home, they are also less likely to buy a home,” Fleming said. “Credit standards have tightened in recent months due to increased economic uncertainty and tighter monetary policy. Compared to a year ago, the credit crunch has reduced the potential housing market by 458,000 potential home sales.
Increased occupation time: “According to the most recent data of June 2022, the duration of the mandate decreased from 10.4 years to 10.6 years compared to a year ago. The main reason? Low mortgage rates discourage existing homeowners from selling because there is no increase in purchasing power other than that which comes from growth in household income,” Fleming said. “Homeowners staying put reduced market potential by 80,000 potential home sales compared to a year ago.”
Stimulate the potential of the housing market
Rising house prices“As a homeowner gains equity in their home, they are more likely to consider using the equity to purchase a larger or more attractive home. However, if equity is low, homeowners will likely remain “locked in the equity” in their home, Fleming said. “Compared to a year ago, the appreciation in home prices has increased the potential housing market by nearly 193,000 potential home sales. This can be particularly important in an environment where house price growth is beginning to moderate, as sellers may be tempted to jump into the market to capture the higher sale price, but these potential sellers also face challenges. a rising interest rate environment.
Growing household formation“The more households formed, the greater the demand for housing. The growth in household formation contributed to 43,000 potential home sales in June compared to a year ago,” Fleming said.
More supply for new homes“The lack of supply and the fear of not finding something to buy prevent many existing owners from selling. As homebuilders bring more new homes to market, the risk of not finding something to buy decreases and homeowners’ confidence in the decision to sell their existing home increases,” Fleming said. “Compared to last year, a greater supply of new homes are entering the market, increasing the potential housing market by 1,400 potential home sales.”
Finally, Fleming posed and answered the question about how the housing market has fared over the past year, saying most of the recent highs recorded for potential sales and other metrics were likely the exception and not the norm.
“Compared to last year, reduced demand resulting from lower home buying power, tighter credit and homeowner retention has resulted in a significant decline in market potential for existing home sales. . Yet despite these headwinds, market potential is currently close to early 2019 levels,” Fleming concluded. “Households are forming and continually increasing demand for housing, existing homeowners have record levels of home equity and the fear of not being able to find something to buy is easing. As the housing market adjusts to a post-pandemic norm with higher mortgage rates, housing market potential will decline from recent highs, but those highs were the exception, not the norm.