June 20, 2023
We had strong housing numbers this morning.
Housing starts jumped, though off of the lows of the past year. The decline (to those lows) was driven by the Fed’s historic interest rate hikes, which (related) caused the quickest doubling of mortgage rates on record.
With that formula, following the post-covid boom in housing prices, the housing market has been a subject of “bubble talk.”
Let’s take a look.
First, here’s a look at building permits.
And here’s a look at housing starts. In May this was running at the hottest rate in seven years …
Now, from these two charts you can see the direct impact of rising interest rates on home building. We can also see, on the left side of the charts, what a housing bubble (and burst) looks like.
If we look back at that 2006 period, home builders were building at about a 40% hotter pace, with about 10% less population.
That real estate bubble was primarily driven by credit agencies AAA stamping high risk/high yielding mortgage portfolios (a mix of fraud and incompetence on the part of the ratings agencies). With a AAA rating and a high yield, massive pension funds had no choice, if not an obligation to plow money into those investments. And with that insatiable demand, mortgage brokers and bankers were incentivized to keep sourcing them and packaging them.
This post-covid housing environment was much different/ much less vulnerable to rate hikes.
You can see in the graphic below, the risk profile is very different, which aligns with the current environment of high creditworthiness (low debt service) and stringent lending standards (post-financial crisis).
We discussed these housing market comparisons by in my December 14th note in 2021, as we were a few months away from the Fed’s rate liftoff.
With that, I said … “What looks likely, in the face of a rate tightening cycle, is that real estate prices just stay persistently high, and even continue higher — driven by multi-decade high economic (nominal) growth, massive new money supply floating around, and a very tight labor market. And at higher rates, it will just cost more to live.”
This aligns with what we’ve discussed throughout on the inflation topic: “rate-of-change” in prices will slow, but the level of prices is here to stay.
And it’s by design: inflate asset prices and inflate away the value of debt.