There’s much speculation about what the housing market will look like in 2023, with some predicting a positive uptick in the second half of the year and others saying it will take much longer to stabilize. First American Data & Analytics recently presented its 2023 Housing Market Outlook webinar, featuring Odeta Kushi, Deputy Chief Economist for First American Financial Corporation, for a review of the health of the U.S. economy, the supply and demand dynamics in the housing sector, affordability challenges, and where the housing sector is headed.
According to Kushi, we’re in uncertain and changing times for sure, but she still characterized the overall economy as resilient – bending a little bit – but not quite broken. And while there are challenges ahead, she sees a silver lining for the housing market in 2023 buoyed by unmet homebuying demand from the millennial generation. As signs of progress, she points to recent upticks in mortgage applications following interest rate dips, builder confidence that has increased for the first time in a year, and a consensus that inflation will continue to come down, barring any major economic shocks.
Still, there are many hurdles to overcome.
Macro-Economic Trends Prevent Full Recession So Far
Recessions are not created equal. Every recession since 1918 has lasted, on average, about 13 months, with notable exceptions of course. The Great Recession lasted about 18 months, and the Great Depression lasted 43 months, making the 2020 pandemic recession the shortest by a huge margin at just two months. In 2022, we had two periods of economic contraction, but you can’t call that a recession because the labor market was so strong last year – there was an average monthly gain of 375,000 jobs. Robust consumer spending, which accounts for nearly 70% of GDP, has helped keep the economy afloat, even in the face of inflationary pressure.
In addition to the Fed’s historic rate increases as it tries to maneuver a soft landing with the economy, there are other macro-economic trends to watch in 2023:
- The pandemic brought about an immediate and steep dip in services (dining out, salon visits, etc.) in conjunction with an increase in spending on durable goods such as TVs, appliances, and Pelotons. But now we're seeing a shift from spending on goods to spending more on services, and with that comes the rebound in employment for the service sector.
- Personal savings is declining. After a run-up in personal savings due, in part, to federal stimulus payments, Americans’ savings accounts are decreasing. Still, a recent estimate indicates that households are still sitting on just over a trillion dollars in accumulated savings which is helping fuel their return to spending on services like eating out and vacations. This is something the Fed is watching as it tries to slow down consumer spending.
- The labor market continues to show signs of strength, but the labor force participation rate, which is a measure of labor supply, is not back to where it was pre-pandemic.
Housing Sector Plays Inflation Catch-Up
As the Fed focuses on the dynamics of inflation, a significant portion of the economy to watch is the shelter component of core services. Core services comprise 60% of the Consumer Price Index (CPI), and within core services, shelter accounts for nearly 60% of the total. While it may seem like bad news that inflation is still rising largely due to that shelter component, it’s important to remember that shelter inflation lags observed rental and house prices increase by about a year given how it’s measured. We know from real-time data that rents and home prices are beginning to decline, so it's just a matter of time – likely in 2023 – that the shelter component will diminish the overall drag on inflation.
Even though housing demand has pulled back, long-run fundamentals point to anticipated increases in demand, particularly from the millennial generation that continues to age into their prime home-buying years. This “shadow demand” will help boost homebuying from millennials who typically have higher incomes and more house-buying power than younger buyers.
Other factors that will affect stabilization and growth in the housing sector include:
- Accepting a new normal for mortgage rates: 84% of mortgaged homes have a rate at or below 5%, and 93% have rates at or below 6%. The average among industry forecasts indicates an expected year-end rate of 5.8%, which is still healthy given long-term historical interest rates. Kushi expects that we likely won’t get back to the super low rates for a very long time, but we should see an uptick in sales as rates stabilize and people get used to the new normal of a 5%-7% range.
- Housing supply increases will be slow, but steady: a deficit in housing supply that started in 2018 was further exacerbated during the pandemic and post-pandemic due to manufacturing and supply chain challenges. Given the severity of the shortage, it will take years to recover, but the January Builder Confidence Index showed an increase in builder confidence – the first in about a year. This is good news since builder confidence tends to be a leading indicator in the housing market. Builders say they are seeing potential buyers responding to builder incentives and lower rates, resulting in a pickup in traffic.
- Affordability will continue to improve: The real price index – which looks at home prices adjusted for the impact of income and interest rates – shows that affordability is down by about 60% compared to a year ago due to higher interest rates. But as house prices continue to come down and incomes rise we should see affordability improve.
- Housing distress will increase, but a foreclosure wave isn’t expected: after a peak of 4.3 million homeowners in forbearance plans in June of 2020, the total number of loans in forbearance is now at about 0.7% of servicers’ portfolio volume. If there is a recession in 2023, we might see this forbearance rate pick up, particularly among more vulnerable homeowners. But given that lending standards in this housing cycle have been much tighter, there likely won’t be a surge in distressed sales. Also, homeowners today have very high levels of tappable equity, providing a cushion to withstand potential price declines, and also preventing housing distress from turning into a foreclosure. As house price appreciation decelerates and the labor market loses steam, we will see foreclosures, but it won’t compare to the wave experienced during the Great Recession.
To learn about these highlights in more detail, you can watch the webinar and download the full presentation by clicking on the button below.
