Professor Chris Mayer has created a new model to compute the relative cost of owning a home based on both a normally functioning mortgage market and the current distressed market. He recently discussed his preliminary findings with the New York Times.
For the last 20 years, mortgage rates have averaged at 1.6 percent above the 10–year Treasury rate. In today’s distressed market, however, that rate now exceeds the 10–year Treasury rate by more than 2.4 percent. Here are a few key takeaways from my research. (download PDF )
Home ownership costs more
The cost of owning a home has increased between 10 and 20 percent relative to what it would be if the mortgage market functioned normally. However, the analysis still underestimates the impact of the credit crunch on house prices, as many buyers who would previously been able to purchase a home are now unable to qualify for a mortgage at any price.
Downward spiral hard to break
Lenders facing losses on their housing mortgage portfolios and the prospect of further deterioration in the housing market have either exited the mortgage market or sharply reduced lending and increased mortgage rates. The rise in mortgage rates makes it more difficult for existing homeowners with subprime loans to refinance into a lower rate. It also makes it more expensive for potential new homebuyers to enter the housing market. The resulting foreclosures and falling demand from first-time homebuyers put further downward pressure on house prices, leading to a vicious cycle.
No market untouched
While house prices have come down, prices in “bubble” markets like Miami, Tampa and Phoenix still have at least 10 to 15 percent more to go. Coastal markets, such as San Francisco, Boston and New York, have already corrected. However, deteriorating mortgage markets and economic fundamentals will likely continue to hit these markets hard. Markets in relatively unscathed areas (Texas and the Carolinas) will likely fall due to increasing mortgage costs.
Cycle will adjust in the future
As house prices fall, new buyers will start to come into the market and eventually help stop the decline. Additionally, buyers who purchase today may be getting a good deal in a couple of years. As mortgage markets recover — as they inevitably will — buyers can refinance at a lower rate and housing will become more affordable for new buyers.
Photo credit: Jeff Turner