After a dip in rates spurred a boost to housing in January, the recent increase back above 7% demonstrates that the rebound will be bumpy as pending sales cooled. Still, all signs indicate that buyers have begun to adjust to more normal rates than we enjoyed during the pandemic as several key indicators of market competitiveness describe a market that is heating up as the Spring homebuying season approaches. Still, other trends show that homebuyer demand remains more depressed than it should be and buyers would do well to consider the long-term benefits of homeownership (which are well documented) alongside their short-run concerns about the market.

Pending sales flat in February but holding on to recent gains: Pending home sales in January posted an even larger year-to-year gain than California enjoyed in closed sales last month. That suggests that the recent rebound in the market reported last week should continue through February and the first half of March. Much of the recent rise in closed sales has been driven by the top-end of the market, which is once again rising by double digits in the $1 million and up segments of the market. In addition, the rise has been fairly consistent in various parts of the state with more affordable and denser urban metros all showing similar improvements this year. Rates did reverse course this month, so the second half of March could see weaker activity, but thus far, interest rates have been trending mostly flat, albeit with significant volatility week to week.

Market competitiveness ramps up as inventory remains tight: The primary sign indicating that consumers have begun to adapt to the current rate environment is demonstrated by how competitive the market has gotten before the Spring homebuying season has even gotten underway. For example, days on market continues to drop as homes start to sell more quickly. Typically, the median time on market peaks in January each year and falls throughout the busy season. In 2023, the median time from the time a home hit the market and went pending peaked at 42 days. This year, it peaked at 36 days and has been falling for the past four weeks in a row to just 20 days last week. More homes selling above list price has been trending up and was almost half of all closed sales last week.

New home sales on the uptick: Active listings at the state level dipped again on a year-over year basis for ten straight months, but the decline for the current month was the smallest. More importantly, new active listings at the state level increased from a year ago for the first time in 19 months and the annual increase was the largest since May 2022. Potential home sellers could hit the pause button on listing their house in the next few weeks though, as rates climbed back up to a two-month high late last week due to the latest inflation concerns. In general, rates are expected to decline later this year, and available inventory should slowly improve throughout 2024.

Rates come down slightly last week: Although the U.S. saw a very strong jobs report for January that drove a surge in both 10-year bons as well as 30-year mortgage rates a few weeks ago, the Freddie Mac reading on average consumer rates ticked back down from 6.9% last week to 6.77% this week. However, there has been a growing divergence between the Freddie Mac number and daily rates being quoted in the marketplace, which remain above 7% as we began the final week of February. Given the latest economic data, rates are not expected to drop as quickly and many forecasters no longer expect the Fed to begin cutting rates until the second half of the year. As such, some prospective homebuyers may opt to return to the market now and refinance later compared to when rates were expected to fall faster.

Confusion and uncertainty restraining homebuyer demand: The rise in rates over the past two years that saw 30-year fixed-rate mortgages go from under 3% to over 8% at one point last year has undoubtedly had a negative effect on homebuyer purchasing power and homebuyer demand. However, demand is much softer than it should be. In the wake of the financial crisis back in 2010, the U.S. unemployment rate was nearly 10% compared with 3.6% last year. However, new mortgage purchase applications were 21% lower than in 2010. More people were applying to purchase homes when unemployment was almost triple where it is today. Buyer demand is much more depressed than can be explained by our relatively strong economy.

Most California homeowners are paying on time and have lots of equity: Although the California Association of Realtors (CAR) remains optimistic about the trajectory of the market and our forecast for an increase in sales this year, the fundamentals in the current batch of mortgages in California should provide some relief to those worried about a worst-case scenario materializing. First, California ended last year with just 2.5% of mortgages delinquent, meaning that almost 98% of homeowners are still making their payments on time. In addition, nearly 98% of California’s homeowners have at least 20% home equity and, based on our analysis, even the upper-end of estimates on a price correction would leave the vast majority of homeowners with at least some positive equity, which will preclude a major increase in distressed sales should the economy turn south.

The housing market had a tough year in 2023 as tight supply and high costs of borrowing continued to have a negative impact on supply and demand. Easing inflationary pressure and a soft economic outlook, however, suggest that there will be some interest rate cuts on the horizon in 2024, which bode well for a housing market recovery. With rates declining to a 7-month low late last year, Americans are feeling more positive about the market, and we could begin to see some increase in market activity at the start of the year. Meanwhile, home prices should maintain their upward momentum as tight supply remains the norm and the market will likely observe a mid-single-digit year-over-year growth rate in the statewide median price in at least the early part of 2024.

California home sales remain stagnant at the end of 2023: California home sales in December remained near the 16-year low reached in November and continued to drop year-over-year for the 30th straight month. For the year as a whole, 2023 recorded an annual sales level of 257,630, a decline of 24.8% from the revised sales level of 342,530 reported in 2022. The annual sales decline in 2023 was the biggest drop in existing home sales in California since 2007. With rates moderated sharply at the end of 2023, home sales should see a bounce back in January and February, but the improvement will be mild in the next couple of months.

Tight supply continues to be the norm but market could see more inventory this spring: Active listings at the state level declined on a year-over year basis for nine straight months, and the decline for the current month remained above 10%. New active listings at the state level also dipped from a year ago for the 18th consecutive month but the annual decline remained below three percent for the second month in a row. Twenty-four of the fifty-one counties tracked by the California Association of Realtors (C.A.R.), in fact, increased in new active listings from December 2022. With mortgage rates remaining well below the cyclical peak reached last October, the market will hopefully see more for-sale properties being listed in the first quarter of 2024.

Housing starts dip from November but builder sentiment boost hopes for spring: The U.S. Census Bureau reported a seasonally adjusted annual rate of 1.46 million units of housing starts in December, a drop of 4.3% from November but an increase of 7.6% from 1.36 million in December 2022. Single-family starts dipped 8.6% on a month-to-month basis but jumped 15.8% from 12 months ago. The monthly decline in December was attributed partly to a change in weather conditions, as an unseasonably warm November could have pulled some constructions forward. Building permits, on the other hand, inched up slightly by 1.9% from November and by 6.1% from 12 months ago. Builder sentiment continues to improve as lower mortgage rates motivate more potential homebuyers to return from the sidelines. The National Association of Home Builders’ Housing Market Index (HMI) increased seven points to 44 in January, reaching the highest level since September 2023. More permits and higher builder confidence level suggest that housing construction could rise again in coming months.

Retail sales remained strong and exceeded expectations: Consumers spent more than expected in the final month of 2023, with December retail sales up 5.6% (not inflation adjusted) year-over-year. The latest retail sales report showed broad-based solid growth at the end of last year, with spending at Restaurants and Bars surging the most (11.1%) from the prior year, followed by Electronics and Appliances (10.7%) and Health and Personal care (10.7%). Many shoppers have used the “buy now, pay later” financing option during the holidays, with the payment plans racking up $16.6 billion in online spending during the holiday season. As such, there could be a pullback in consumer spending in the months ahead as bills come due for shoppers who borrowed forward at the end of last year.

Biggest 2-month surge in consumer sentiment in 30+ years: Consumer sentiment reported by the University of Michigan jumped to the highest level since 2021 as Americans began to feel more upbeat about the economy. The sentiment index climbed 9.1 percentage points to 78.8 and the surge was the biggest monthly increase since 2005. On a two-month basis, the index rose 29% cumulatively and posted the largest 2-month increase since 1991. Compared to the all-time low registered in June 2022, the reading in January 2024 was 60% higher. With inflation cooling and the labor market remaining solid, it is not a surprise that consumer sentiment began to pick up in recent months. Inflation expectation a year from now, in fact, declined to 2.9% in January from 3.1% in December, the lowest level since December 2020. The rapid improvement in consumer sentiment is a positive sign for the general economy but is also a signal that rates could remain higher for longer.

Mortgage rates continue their upward climb as daily rates top 8% several times over the past week. This comes as the bond market continues to price in “higher-for-longer” and rates for 10-year notes are quickly approaching 5% after remaining relatively flat through the first half of this year. Despite this, consumers remain a driving force of growth in the U.S. economy and this was reflected in last month’s labor market statistics for California that kept leisure and hospitality at the fore. Housing supply remains depressed and this is behind slower home sales in California, but despite the impacts to buyer demand as rates increase, home prices logged their third consecutive year-to-year increase last month.

Benefits of homeownership still alive and well: The Federal Reserve released its 2022 Survey of Consumer Finance report last week, which showed that homeowners continue to account for the majority of wealth accumulation in the U.S. Last year, the typical, inflation adjusted, net worth for a U.S. household rose to $192,900. However, broken down by housing tenure shows that homeowner wealth reached a median of $396,200 last year, while median net worth for renters was just $10,400. This is only $1,000 higher than the previous all-time high set back in 1995 and demonstrates that renting continues to disappoint when it comes to generating wealth and highlights why owning a home is a wise long-term financial move.

Consumers remain undaunted by rates or debt levels: Despite the fact that credit card debt has risen by nearly $150 billion compared with pre-pandemic levels, retail sales rose again in September as consumers continue their assault on the services sector. Although some of this credit card debt has begun to grow delinquent, spending at bars, hotels, and restaurants remain strong. Even after netting out above-average inflation levels for the past year, real retail sales remain more than 10% above spending levels from January 2020.Given that consumers represent nearly 70% of U.S. gross domestic product (GDP), this suggests that 3^rd quarter economic growth could come in much stronger than originally forecast, which will prevent the Federal Reserve from considering any potential rate cuts until next year.

Housing starts up for now, but not many single-family homes: Housing inventory remains the limiting factor on rebounding home sales, which is why last week’s updated housing starts for September were a source of hope against a backdrop of otherwise challenging market news. The number of new residential housing starts rose to a 1.4 million unit pace last month. This is still likely below the level needed to meet demand given the lackluster numbers of the previous two years, but encouraging that new projects are moving forward despite the recent increase in mortgage rates. However, much of the activity was concentrated in multi-family building and the sustainability of the uptick has yet to be proven.

Rates continue to rise as bond market prices in “Higher for longer”: Daily averages for 30-year, fixed-rate mortgages have broken the 8% threshold twice over the past week as the bond market digests and accepts the Federal Reserve’s promise to keep rates higher for longer than originally anticipated. The current rate on a 10-year Treasury is quickly approaching 5% despite recent comments from the Fed Chairman that they are unlikely to raise rates before the end of the year and a flight to the safe haven of U.S. Treasuries as the conflict in the Middle East threatens to impact oil supplies. Although this means that the yield curve, which measures the spread between short- and long-term Treasuries and is typically a consistent indicator of future recession, is less inverted, it has come at the cost of higher mortgage rates that are increasingly likely to remain elevated through the end of the year.

California market trends down as rates rise: California’s housing inventory remains very tight, even by the standards of the past few years. However, the recent rise in rates in also having a more pronounced effect on homebuyer demand than it has up to this point in the recovery. Home sales trended back down to roughly 240,000 units last month. This is still slightly above the low-point reached back in November 2022, when sales fell to 235,000 units, but underscores that the return to more ‘normal’ levels of transactions will be a gradual process of fits and starts. Home prices are still on the uptick, and despite dipping slightly from August for seasonal reasons, the median closed price of an existing single-family home in California rose for its 3^rd consecutive month on a year to year basis.

Job market remains strong, but unemployment rises: California added nearly 9,000 net new jobs in September as gains in tourism, bars/restaurants, entertainment, and healthcare offset declines in manufacturing, tech, and professional jobs. However, the unemployment rate rose to 4.7% as the number of unemployed workers rose above 900,000 for the first time in over 18 months. Weaker unemployment data suggests that the jobs numbers may not be as strong as is currently estimated—a theory supported by official, though 9-months lagged, data from the state on payments into the unemployment insurance system that suggests things may be weaker than headline numbers suggest.