The Truth About Mortgage Rates at 5% that No One Wants to Hear

Rain in Las Vegas is as rare as hens' teeth!  But, as country star Luke Bryan sings: "Rain makes corn; corn makes whiskey; whiskey makes my baby girl get a little frisky."

Unlike rain, unpredictable mortgage rates breaking above the 5% barrier are a drag!  They eat away at housing affordability for most middle to lower income people throughout the state.  But hear this: the rise in mortgage rates are leading to better things ahead, such as a healthier housing market in the coming months and years.

Here is a truth no one wants to hear, but Las Vegas Home Finance is willing to say: "Sustained mortgage rates in the 5's are exactly what the housing market needs right now to create balance and give homebuyers a chance to own. There are reasons why the price of homes in greater Las Vegas are up a shocking 32% year to date against the national average of 20%."

Look at these reasons why.

Sub-3.5% rates were unsustainable

In the housing market multiverse, there are countless pathways things could go. The current reality of 5% mortgage rates may seem like a nightmare to some homebuyers… until they realize that a market with mortgage rates remaining in the low 3's, where they hovered for much of the pandemic, is a killer.

Those record low rates effectively kept mortgage payments down and brought more homebuyers into the market. Keeping those low rates may have staved off a more severe recession during covid. But, unfortunately, they also all but decimated the housing supply and sent home prices into the stratosphere. There are fewer homes on the market, and they cost more than ever. It does not matter where you look.  Summerlin, Anthem, Boulder City, Henderson, Mesquite, Searchlight, Laughlin; prices of houses are up everywhere!

Just take a look at the graph below to see how inventory and home prices reacted when the average 30-year fixed mortgage rate dipped below 3.5%.

With rates below 3.5% from April 2020 to January 2022:

• Home prices increased 31%
• Active listings decreased 61%
• Bidding wars erupted and more than doubled from 32.7% to 68%
• Inflation increased to its highest rate in over 40 years

Ultra-low mortgage rates may have been great for homebuyers who locked them in, but they were terrible for the overall health of the housing market and a key driver to the inflation we're seeing today. Let's remember that mortgage rates didn't fall below 3.5% organically - it was a byproduct of a, hopefully, once-in-a-lifetime pandemic that disrupted nearly every aspect of life.

Rates in the 4's won't slow rampant growth in price

Maintaining rates below 3.5% is a recipe for disaster, but what about that appealing gap between 3.5% and 5%?

If the goal is to really slow growing prices down to a crawl, rates below 4.5% are not an answer. They haven't been able to do that over the last 12 years. Since 2010, there were only two periods of substantially slower price growth when the average 30-year mortgage rate was above 4.5%.

From 2011-2018, with rates consistently below 4.5%, homes appreciated on average 5% per year. That's on the higher end of healthy growth and preferable to the nearly 20% growth we're seeing in early 2022. But curbing price growth is a much heavier lift now than it was in the previous decade.

Not only is inventory at record lows, but high demand is guaranteed to continue due to the massive wave of millennials aging into their prime homebuying years and ripening to a stage of life with strong job and wage growth. Not to mention the rise of remote work and homeschooling that is increasing mobility and fueling the desire for more space. Additionally, investors are attracted to single-family home rentals as a hedge against inflation.

In other words, today's housing market is a much bigger ship than in the past, and turning it in today's economic seas requires more force. In the 2010's rates in the high 4's may have had the oomph to slow the market, but it's unlikely to work now.

Rates could go higher

It seems hard to imagine, but there's a universe in which mortgage rates could go higher than they currently are.

The primary driver for rising mortgage rates is market reaction to inflation-combating measures by the Federal Reserve. In an effort to avoid shocking housing and other markets, for nearly a year the Fed has been ominously predicting a rise in interest rates.

Had the Fed taken faster, more drastic action (which many people called for) the market reaction could likely have been more severe, and so would the rise in mortgage rates.

For example, rate increases would be even steeper if the Federal Reserve had chosen to raise the federal funds rate by 0.5% instead of the minimum increase of 0,25% in March of this year.  The Fed could also have tapered its asset purchases faster and with less warning.

More extreme policies by the Fed almost certainly would have meant higher mortgage rates today and faster cooling in the housing market, but they also posed the risk of sending the economy into recession. And then we'd have bigger problems than 5% mortgage rates.

Look at the big picture

Mortgage rates in the 5's may seem astronomical after nearly three years of enjoying rates in the 3's, especially to first-time homebuyers that have known nothing else for comparison.

However, ask any homeowner over the age of 50 and they will happily tell you that the mortgage rate on their first home was 6, 7, or 8 percent. Some were even 12%. In fact, catch a boomer on the good day and they will tell you about how they were lucky to lock-in a rate below 10% in the late 80's.

Any time before 2008, a mortgage rate in the 5's was almost unheard of because of how low it was. Imagine what it would take to slow an overheated market with 5% as a rock bottom rate.

Consider the worst-case scenario

If the end goal is a balanced housing market with ample inventory and homes that appreciate more-or-less in step with wage growth, then 5% rates are not a half-bad way to get there. Especially if you consider the alternative that more and more people are calling for (even if they are crying wolf).

The other means of slowing, halting, and/or reversing price growth is a market crash - and nobody wants that.

Today's market - overheated as it may be - is built on the solid fundamentals of low supply, high demand, and strong employment. Lenders have much tighter standards than they did in the mid-2000's and current borrowers are much more qualified to make mortgage payments.

With that in mind, a housing market crash would most likely have to go through a major disruption in employment. Whatever the disruption, it would have to result in millions of homeowners losing their jobs, defaulting on their mortgages, and flooding the market with foreclosed homes.

Given the housing market just survived a pandemic that wiped out more than 20 million jobs in a matter of two months, it would probably have to be worse than that.

So go ahead: boo, hiss, throw tomatoes. The truth is mortgage rates in the 5's sustained over time are the least painful pathway back to a healthy, balanced market where homebuyers have options and some bargaining power at the closing table.

Mortgage rate projections are not a reflection of Las Vegas Home Finance's opinion or a guarantee of interest rates in the current or upcoming market.