You’d think that after 43 consecutive months of year-over-year home price appreciation things would begin to get too expensive for most folks. Or that future price increases would be doubtful.
Well, despite nearly four years of nonstop gains, housing affordability is still better than it was before the housing bubble gripped the nation.
Perhaps this is a testament to just how far home prices fell after faulty loans led to a major collapse. But you could also thank persistently low mortgage rates for ongoing affordability.
A new analysis from Black Knight Financial Services revealed that mortgage payment-to-income ratios are still quite favorable by historical norms, with just 21% of median income needed to buy a median-priced home using a 30-year fixed mortgage.
During the height of the boom in 2006, it took 33% of income to buy a median-priced home. And we all know how that turned out.
Before things got out of hand with the introduction of exotic financing, stated income, and no doc loans, the average median income needed to buy a home with a mortgage was 26% (based on the years 2000 to 2002).
So we’re still below levels seen during the more reasonable years, which is certainly a good thing. However, it can all change very rapidly.
It Won’t Take Much to Get Unaffordable Again
Black Knight was quick to point out that housing affordability could take a turn for the worse in the very real scenario of rising mortgage rates and continued home price appreciation.
Basically if we continue enjoying today’s rate of home price appreciation and see a 50-basis-point-per-year (0.50%) increase in mortgage rates, home affordability will be pushing the limits of the pre-bubble average in just two short years.
As a result, eight states would be less affordable than during those pre-bubble years in just 12 months, and 22 would get into potential bubble territory within 24 months.
Even if things stay as they are now, two areas, Hawaii and Washington D.C., are already more expensive than they were pre-bubble.
Now this isn’t to say we need to freak out and sell our homes before they plummet in price. For one, mortgage rates aren’t guaranteed to climb 50 basis points per year.
In fact, the 2016 forecast from some pundits sees rates rising only marginally. Additionally, home price appreciation has already showed signs of slowing.
That could extend the time before we reach dangerous home price levels again. You also have to remember that home prices don’t just drop because they become unaffordable.
Banks and lenders respond to affordability concerns by introducing creative financing products to boost purchasing power, for better or for worse.
And DTI ratios can go much higher than the median income levels mentioned by Black Knight.
Are Home Prices Expensive?
We tend to overshoot what is reasonable in terms of an affordable home price before anyone actually realizes we’ve gone too far.
So even if home prices are too expensive and should technically cool off or fall, they may continue to rise for several years beyond that date.
This is how we get into trouble, but it’s also kind of an inevitable path and one that is likely to repeat itself.
I, for one, believe home prices will continue to climb higher for the foreseeable future, though I do think they’re expensive relative to levels seen in recent years. That could be partially psychological.
For example, it’s hard to consider purchasing a property that was last sold a couple of years ago for nearly half the price.
Still, you have to factor in inflation to get real home prices instead of just saying, “Hey, home prices are back to levels seen in 2006.”
I just think we’ve seen the bulk of the home price growth already and going forward it will be a lot more measured.
That makes it tempting to sell for those who have seen massive gains since 2012, but with high rents and relatively high asking prices on move-up homes, there may be nowhere to go if you do sell.