Why The US Homeownership Rate Will Crash

a clear picture of the future of housing, supported by facts and dataImagine a pill that would allow you to cheat death. Now imagine another pill that would improve your health. Pretty great huh? Sign me up! Well, the housing market has been taking those two pills for the past forty years, and unfortunately, their effects are about to wear off!

In this post, I’m going to paint a clear picture of the future of housing, supported by facts and data.

If you agree with my premise, then you’ll be forced to agree with my conclusion, and that is that home affordability is about to plummet and corporations are moving in to monopolize the ownership of homes which will result in a long-term landlord market, further separating the haves from the have nots!

So follow me through to the end, whether you watch the video or read the supporting material below it and you’ll be in a position to take advantage of the biggest change the housing market has seen since the end of World War II!

VIDEO: Homeownership To Plummet

Let's start the analysis of current and future conditions with a basic understanding of what "homeownership" is and is not. Common sense might lead you to expect that the homeownership rate is the percentage of adults who own their own home, but that is not the case.

The homeownership rate is a measurement prepared by the US Census Bureau that examines all single-family homes, apartments, condominiums, and housing cooperatives in order to compare the total number of owner-occupied units to the total number of units. So when you hear the term "homeownership rate," it is the measurement of all the people who live in homes they own compared to all the homes in the US.

US Homeownership History

This graph tracks more than 120 years of the US homeownership rate by decade starting in 1900.

Graph of US homeownership rate from 1900 to 2021

The purpose of this article is to examine US Homeownership today and to forecast its future. A quick summary of the past was pulled from the U.S. Department of Housing and Urban Development website. According to HUD, from 1890 to 1960:

The homeownership rate fluctuated in the 43- to 48-percent range. From 1890 to 1920, the homeownership rate fell as immigration and urbanization offset the rise in income. Income growth increased the homeownership rate during the 1920s, but the Depression more than wiped out this gain so that the rate had fallen to a low of 43.6 percent by 1940.

During the 1940-1960 period, the homeownership rate rose by over 18 percentage points, from 43.6 to 61.9 percent. This remarkable transformation was facilitated by higher incomes, a large percentage of households being in prime homebuying age groups, the FHA-led revolution in mortgage financing, the GI bill of rights, improved interurban transportation, and development of large-scale housing subdivisions with affordable houses.

The big takeaway is that the US homeownership rate changed significantly after World War II, from less than 50% to nearly 62%. After 1960, for the next 60 years, we've seen the US homeownership rate stabilize, from as low as 61.9% to as high as 68.1%. Currently, the US homeownership rate is 65.4% (estimated April 2021).

I believe we'll soon start a trend of a falling US homeownership rate that will eventually lead to a rate of 60% to be left behind in history, bringing back the sub-50% levels. My reasons are detailed below.

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Home Affordability Will Change The US Homeownership Rate

What many people do not realize is that home affordability today is awesome! They hear of soaring home prices and believe that home affordability is through the roof, but that is certainly not the case.

Home affordability, and how it changes, is perhaps the most important factor in how the homeownership rate will move in the coming years. By forecasting home affordability, we are also forecasting the likely change in homeownership.

This graph plots inflation-adjusted home affordability from 1991 through 2021 by using the Consumer Price Index to adjust all years' home prices back to 1991 levels and then using the historic mortgage interest rate to calculate how monthly mortgage payments compare over time.

Inflation-adjusted home affordability 1991 to 2021

The red line in the graph above plots the inflation-adjusted average monthly mortgage payment and it is clear that today's payment is lower than all previous years except 2011-2017 plus 2019. So even as home prices skyrocket, home affordability is still far below what buyers were expending in the 1990s and the 2000s, and home affordability today is only higher than the years that followed the bottom of the housing market collapse.

Home affordability will soon be challenged greatly, as both the price of homes as well as the cost of borrowing money will be rising significantly in the relatively near-term future.

Let's start with an examination of mortgage interest rates, including a forecast of what is likely to occur in the coming years.

Mortgage Interest Rates: Poised For Generational Change

According to an annual survey of recent home buyers conducted by the National Association of Realtors®, 87% of recent buyers financed their home purchase with an average 88% loan-to-value mortgage loan.

It has been my experience that most buyers purchase homes at the high-end of what lenders will allow, so the mortgage interest rate charged to buyers is highly impactful on home affordability. Let's look at why we're on the brink of a generational change in mortgage interest rates.

Graph of more than 50 years of the average monthly 30-year fixed mortgage interest rate

The graph above plots each month's average 30-year fixed mortgage interest rate for the past 50+ years. The blue line shows the general decline of rates for 40 straight years.

Think about what this means. For the past 50 years, people who purchased homes were able to refinance their homes and pull out cash after five or so years. They could do this while also lowering their monthly payment! And for those that moved, they could purchase a more expensive home and keep their payment similar or lower if they used the equity they had built up for the next home.

When rates fall, home affordability rises. So we have several generations of homeowners who were able to obtain lower interest rates whenever they decided to move up to the bigger home. I'm fairly confident those days are over.

When this graph is extended over the next fifty years, I think it is highly likely that we'll see a long-term trend of rising rates. Today's buyers would be shocked to discover that the fifty-year average rate is nearly 8%. 

And the forty-year average ten years ago (prior to a decade of historic low rates) was nearly 9%!

Interest rates are cyclical, and today we are at the very bottom of the low end of the cycle. Mortgage interest rates are going to return to normal, and then move above normal because that's what 800 years of interest rate history has shown always happens. This is why I'm advising buyers today to purchase as much house as they can stomach because they likely will not be in a position to move up to a larger, more expensive home with interest rates and property values rising at the same time.

How Affordability Changes As Mortage Interest Rates Change

The following tables provide a good visual of what today's median-priced homebuyer will experience over the next twenty years. It works by taking the median home price in the US today and appreciating it at a conservative growth rate each year. Under each home price is the salary required to purchase the home at the interest rate in the second column. Just for reference, the first column contains the previous year that the interest rate was the average.

Graph shows how salary requirements change as home prices and mortgage interest rates change

So here's how we use the table. Follow the third column from the left, under the year 2021. Today's median home price in the US is around $355K, and today's mortgage interest rate is around 2.93%, so that means the typical buyer needs a salary of around $62K to be able to buy this median-priced home.

If rates moved up 1/2%, then the salary requirement would jump 2% to over $63K. Now, say a buyer decides to wait a few years, perhaps to 2024. The median-priced home will be nearly $450K! And we expect rates to be much higher by then. Even if mortgage interest rates only move to 5%, then the required salary to get a median-priced home will be just short of $95K! Do you think the buyer waiting to buy a median-priced home will earn 53% three years from now?

Now, let's look at a table that has been created for a move-up buyer. The typical move-up buyer purchases a home 150% of their current home's value, so that is what we used to prepare this table. A buyer purchases a home today at the US median home price and then 8 years later sells the home and buys its replacement at a price 150% of the first home's value (eight years from now).

Table shows likely cost and interest rate for home in 10 years for today's median home buyer

I'm not sure many buyers will be able to handle this sticker shock! The payment (PITI) on the first home, calculated using today's low mortgage interest rate, is just $1,808 each month. But with the rise in home prices (conservatively estimated) and the rise in mortgage interest rates (conservatively estimated), the monthly payment on the next home will jump 137% to $4,283 each month.

I know numbers like these are hard to believe, but the reality is that mortgage interest rates are likely to move higher faster than the table projects, and I think home prices will move higher at a faster rate too. Builders in the US have not been producing enough homes for the growing population, so the supply of homes is far too low and prices will continue higher.

Forecasting Future Mortgage Interest Rates

Forecasting the changes in the mortgage markets is highly speculative at best, but there are signs that will guide us to the changes that are coming. Today, we're going to look at how mortgage interest rates move when the Fed changes its federal funds rate.

Mortgage interest rates are not directly tied to the federal funds rate, but the graph below shows us that in the long term, there is definitely a correlation between the move the fed makes and the changes that follow in the mortgage market.

How mortgage interest rates move compared to the movement of the Fed Funds Rate

This graph shows 50 years of average mortgage interest rates (solid blue line) and 50 years of the effective federal funds rate (solid red line). The dashed lines reveal the one-year average of each rate.

The dashed lines reveal that the mortgage market does generally follow the federal funds rate, and the median difference between those two lines is 3.15%. Simply put, if the Fed moved the fed funds rate to 1% at their next meeting, you would expect mortgage interest rates to move towards 4.15% over the next year.

Again, they are not specifically tied together, but history has shown the correlation exists. So why does this matter?

The current federal funds rate is 0.1%, but signs of inflation are very obvious and several members of the Federal Open Market Committee (FOMC) have stated that they believe it is time to raise the federal funds rate to battle inflation. When the FOMC’s statements are generally “positive” on the U.S. economy, mortgage interest rates tend to rise. Conversely, when the Fed is generally negative with its commentary, mortgage interest rates typically fall.

In a recently published opinion, one FOMC member said using the traditional model for determining the proper federal funds rate, today’s rate should be at close to 5%. If the FOMC acted on that (which they will not be doing), a federal funds rate of 5% would suggest mortgage interest rates moving above 8% over the next year. Again, that's not going to happen real soon, but with FOMC sentiments changing, we have to be expecting a rise in the federal funds rate no later than early next year. And that means we should anticipate a rise in the mortgage interest rates to follow.

If inflation starts pushing higher than 2% for an extended period of time, it will signal the beginning of the rise in mortgage interest rates that will cool demand in the housing market because home affordability will decline significantly.

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Why New Home Prices Are Moving Higher Faster

There are several reasons that new home prices will be moving higher at a faster rate than we have observed in the past. The National Association of Homebuilders claims that the lack of available lots is a big reason that more new homes are not being built.

The reality is that there had been a surplus of developed lots left over from the housing expansion stage back in 2006, and many of those lots had been foreclosed upon multiple times and thus were picked up by builders below cost. Well, those lots are about gone. That means future homes will be built on lots at the real cost of development, and that means the land underneath new homes will be more expensive. In Tallahassee, I believe it will add 15% to 20% to the overall cost of a new home (on average).

But there is a new (hidden) cost that soon will be pushing the cost of materials and labor much higher too.

Graphs compares the growth of the minimum wage with the growth of new home prices

The minimum wage in Florida is going to move higher at a faster rate than ever. By voter mandate, the Minimum Wage in Florida will move to $15 an hour over the next five years. We saw the Minimum Wage move 66% higher over the past 17 years, but now it will move 75% higher over the next five years. Take a look at the solid green line in the graph, look at how significant the growth slope is going to be changing as we move forward. This is significant!

Without even considering the temporary increases in material costs due to the COVID pandemic, we must be prepared for the cost of construction to soar due to the coming changes in the Minimum Wage.

These higher costs mean that the shortage of homes in the US will be filled with new homes that cost a lot more than did new homes in recent years. This will increase the average price of all homes at a significantly faster rate than what we've seen in the past, thus putting even more pressure on home affordability.

It won't be long until the combination of higher home prices and rising mortgage interest rates make home affordability an unattainable proposition for many people who have good credit and who would like to buy a home. And this is why I see the generational shift in the housing market occurring.

We still need more homes, no matter the cost, and therein lies the opportunity for well-capitalized entities to purchase homes for lease to those that cannot afford them. This is already begun in many areas, but we've only seen the tip of the iceberg on this issue thus far.

The Shift Has Already Begun

Real estate, and specifically the housing market, has always been a perfectly decentralized market. The majority of homes are owned by individuals, and in the past, it was rare to find a single owner with vast holdings in the housing market. But all of that is changing.

OfferPad, Zillow, Home Partners of America (17,000 homes), BlackRock (80,000 homes), and Invitation Homes, just to name a few, are gobbling up houses and even whole neighborhoods in order to lease them to people who cannot afford a home. Wall Street loves the steady rental income, and this is a rapidly growing industry that is just in its infancy.

Imagine Tallahassee (or your market area) where 25% to 50% of the homes are corporately owned and managed. Rental rates will move higher at a faster rate due to the centralized command and control of the market. People who earn below the median income level in each area will find it hard to afford to buy a home, and thus many people who would have been homeowners in the past will be tenants in the future. I truly see the American Dream being ripped away from a large portion of our population.

Go back and take a close look at the home affordability graph I showed above, and let it motivate you to go out and get as much home as you can handle today because all the signs in the market show a future will you will not be able to afford to purchase a similar home. The combination of today's relatively low home prices and historically low mortgage interest rates means that today's home affordability is better than you will see for the rest of your life!

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#1 By Zack Scharlepp at 8/20/2021 8:19 AM

Interesting thesis. A few counter-points.

I too think interest rates are set to rise in the long term, thereby putting significant pressure on home affordability. But, I also think this has an inverse effect on home prices/appreciation. If the average homebuyer can no longer afford to buy a home due to interest rates and increased monthly payment, demand will plummet. Housing prices, as with all assets, is based on supply and demand. If a large swath of would be homebuyers are priced out of the market, demand has to fall.

Your thesis as it relates to Wallstreet filling the demand is intriguing, but I fear unrealistic at the numbers you predict. Current estimates have institutional investors owning 1-2% of U.S. housing stock. While I believe it is safe to assume this percentage increases moving forward, I am hard-pressed to see this number rise above 10% in the next 20 years. Total U.S. housing is a 36 trillion dollar industry. Blackrock, the largest investment firm in the nation has 10 trillion AUM, so it would take a very large concerted effort for Wallstreet to consume 50% of the current housing market. Also, accepting your premise as true that appreciation continues at 5% per year despite increased interest rates, the profitability of buy and lease significantly decreases.

I guess in sum, I agree with your overall premise, but disagree that the likely outcome is as gloomy as you predict.

#2 By Joe Manausa at 8/23/2021 8:50 AM

Hey Zack, thanks for the detailed comment! I agree with what you're saying, but I differ with your thoughts on supply and demand. Yes, demand will fall, but so too will supply. Builders are a smaller percentage of the market, so many of the buyers are actually sellers too. We'll enter the slow-down with low supply and I just don't see it flipping to an over-supplied market (which I agree would cause pricing pressure and we would see prices fall). The US has too few homes. Prices and rents are going to be (are) rising faster than the historic average. All those buyers without homes that are leaving the market are going to be tenants. ... As far as the growth of corporate homeownership, let's just wait and see :). Thanks again for the input.

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