Record low mortgage rates have continued to support home sales, with the pending homes sales index reaching its highest level since the series began in 2001. (See Chart 1.) But a rise in the 10-year Treasury yield implies mortgage rates will now tick-up. Alongside record low inventory and tighter mortgage lending standards, that means sales will edge back over the remainder of the year. Indeed, applications for home purchase declined in the final two weeks of September and homebuying sentiment dropped back. In contrast to the booming home sales market, rental markets have been far more subdued. The apartment vacancy rate rose to 5% in the third quarter, a nine-year high, and rental growth has slowed. With unemployment elevated and further support from the government not yet forthcoming, we expect a further rise in vacancy over the next few months.
- Record low mortgage rates have continued to support home sales, with the pending homes sales index reaching its highest level since the series began in 2001. (See Chart 1.) But a rise in the 10-year Treasury yield implies mortgage rates will now tick-up. Alongside record low inventory and tighter mortgage lending standards, that means sales will edge back over the remainder of the year. Indeed, applications for home purchase declined in the final two weeks of September and homebuying sentiment dropped back. In contrast to the booming home sales market, rental markets have been far more subdued. The apartment vacancy rate rose to 5% in the third quarter, a nine-year high, and rental growth has slowed. With unemployment elevated and further support from the government not yet forthcoming, we expect a further rise in vacancy over the next few months.
- Economic indicators: The pace of the economic recovery and private payroll growth have both slowed, indicating that the economic rebound is entering a new, weaker phase. Following a 3.7% decline this year, we expect GDP growth to be a solid 4.5% in 2021, but the risks to that forecast on both sides are enormous.
- Single-family: Record low inventory levels, strong new home sales and higher house prices have pushed homebuilder confidence to a record high. Combined with a recent moderation in lumber prices, that means single-family starts will see further strong growth over the next few months.
- Multifamily: Disruption from COVID-19 helped push absorption rates down to their lowest level since the financial crisis, and that is now feeding through to higher vacancy rates. If not for a sharp drop in apartment completions, the vacancy rate would have been even higher. Apartment REITs continue to underperform, with valuations down 25% compared to the start of the year.
Chart 1: Existing & Pending Home Sales
- As the lockdowns were lifted from May onwards, the early stages of the economic recovery were a little stronger than we had expected, and third-quarter GDP growth will be close to 30% annualised (2). But the pace of the recovery quickly slowed; initially as the second wave of infections prompted the reintroduction of some restrictions, and more recently after key fiscal stimulus measures were allowed to expire. Accordingly, our best guess is that the economy will still be slightly below its pre-virus path at end-2022 (3).
- The recovery in the labour market is also slowing. Non-farm payrolls increased a smaller-than-expected 661,000 in September (4). The unemployment rate declined to 7.9%, but that mainly reflects a 695,000 drop in the labour force, with the household measure of employment rising by a more muted 275,000. The drop in unemployment was also due to a fall in temporary layoffs, with permanent job losses rising (5).
- Inflation is now picking up and several factors unique to this recovery mean that inflation is likely to recover more quickly than in past cycles. Additional non-labour costs linked to physical distancing may boost prices and unit labour costs spiked in the second quarter, pointing to an acceleration in core inflation (6). Furthermore, households’ longer-term inflation expectations have rebounded this year (7).
Chart 2: Real GDP
Chart 3: Real GDP ($ Trillion)
Chart 4: Non-Farm Payroll Employment (Millions)
Chart 5: Unemployment Rate by Reason (%)
Chart 6: Unit Labour Costs & Core CPI Inflation
Chart 7: Households’ Inflation Expectations (%)
Sources: Refinitiv, NY Fed, Uni. of Mich., C.E.
- Mortgage rates edged back further in the latter part of September, reaching a record low of 3.01% by the end of the month. However, a rise in 10-year Treasury yields since then means we doubt rates will fall further over the next couple of weeks (8). The drop in rates didn’t do much to boost mortgage demand. Applications for both home purchase and refinance have been relatively stable in recent weeks (9).
- Despite that stability in mortgage demand, home sales have seen further gains. Indeed, the pending home sales index in August hit its highest level since records began in 2001, which points to strong existing home sales in September (10). But tight inventory means sales growth will soon tail off. The months’ supply of existing and new homes both dropped to record lows in August (11).
- That lack of supply has weighed on home buying sentiment. Fannie Mae reported that just 54% of households in September thought now was a good time to buy, down from 59% in August (12). Tight credit conditions may also be putting potential buyers off. Ellie Mae has reported a sharp rise in credit scores for conventional home purchase mortgages in recent months, and a gradual fall in debt-to-income ratios (13).
Chart 8: 10-Yr Treasury Yield & 30-Yr Mtge Rate (%)
Chart 9: Mortgage Applications (Index)
Chart 10: Existing & Pending Home Sales
Chart 11: Months’ Supply Homes for Sale
Chart 12: Good Time to Buy (%)
Chart 13: Conv. Home Purchase Credit Score & DTI
Sources: Refinitiv, MBA, NAR, C. Bureau, E. Mae, F.Mae, Uni. of Mich.
Single-Family Market (Continued)
- Strong new home sales have given a boost to housing starts, with building permits hitting a 13-year high in August (14). With the inventory of new and existing homes so low, builders will have a strong incentive to boost production. Indeed, the NAHB measure of homebuilder confidence rose to 83 in September, the highest reading since the survey began in 1985 (15).
- A fall in lumber prices will also help starts. Futures prices have dropped sharply, and prices for a November delivery are now close to where there were in July (16). With housing demand surging and supply low, house price growth has picked up on the both the Case-Shiller and FHFA measures (17). The latter jumped to 6.4%, a two-year high.
- But given evidence of some move away from cities, house prices have underperformed in New York and Chicago (18). Looking ahead, given the damage to the labour market and tightening in credit conditions, house price growth will slow in 2021. Indeed, after an initial 20% rise between April and August, the average size of a home purchase application has since stabilised at around $370,000 (19).
Chart 14: SF Starts & Building Permits (000s Ann.)
Chart 15: NAHB Homebuilder Confidence (Index)
Chart 16: Lumber Prices (1st Pos., $ per 1,000 sq.ft.)
Chart 17: House Prices (% y/y)
Chart 18: Case-Shiller House Prices (Jul-20, % y/y)
Chart 19: Avg. Home Purchase Mortgage Size ($000)
Sources: Refinitiv, C. Bureau, C-Shiller, FHFA, MBA, C.E.
- Apartment rental markets are still struggling from the impact of COVID-19. Respondents to the Q3 NMHC survey reported that conditions were getting looser, and at a rate only marginally slower compared to Q2 (20). Earlier lockdowns prevented some people from moving, and coupled with evidence of migration out of cities and toward suburbs that meant just 46% of apartments completed in the first quarter were rented within the next three months, the lowest since the financial crisis (21).
- Even with evictions banned in many states, that drop in new demand is putting upward pressure on vacancy rates. REIS reported a rise to 5% in the third quarter, a nine-year high (22). We expect that vacancies will rise to around 5.5% by the end of the year. Rising vacancies and surging unemployment are weighing on rental growth. The CPI measure dropped to 2.9% y/y in August, a seven-year low (23).
- Rents have been particularly weak in New York and San Francisco, with year-on-year falls in August according to Zillow (24). Despite the failure of Congress to agree a new fiscal stimulus package, there has been no discernible rise in rent arrears. Indeed, at 79.4% in the first week of October, the share of rent fully or partially paid was unchanged from October last year (25).
Chart 20: NMHC Market Tightness (% Bal., S.Adj.)
Chart 21: Three-Month Absorption Rate (%, S.Adj.)
Chart 22: REIS Apt. Vacancy Rates (%)
Chart 23: Rental Growth (% y/y)
Chart 24: Zillow Rent Growth (Aug-20, % y/y)
Chart 25: Rent Fully or Partially Paid by First Week (%)
Sources: Refinitiv, NMHC, REIS, C. Bureau, Zillow, C.E.
Multifamily Market (Continued)
- Construction site shutdowns meant just 34,000 apartments were completed in Q2 according to REIS, a drop of 38% y/y (26). That will prevent vacancy rates from spiking too high. But, to date, developers still appear keen on breaking new ground. MF starts and building permits have recovered from their COVID-related dips (27).
- Indeed, Freddie Mac reported only a small fall in the apartment market investment index in Q2, as lower prices offset a fall in net operating income (28). That said, given the large number of units in the pipeline, we expect starts will fall back over the next few months. Yields increased to 4.2% in the second quarter, and we expect a further increase to around 4.4% later this year (29).
- That means total returns will bottom out at around -4.0%, before gradually recovering over the next couple of years (30). That poor short-term outlook is in line with the latest REIT valuations. While the NAREIT single-family REIT has fully recovered from its drop earlier in the year, the apartment REIT is still 25% below its price at the start of 2020 (31).
Chart 26: REIS Apt. Completions (000s Ann.)
Chart 27: MF Building Permits & Starts (000s)
Chart 28: F. Mac Apt. Investment Market Index
Chart 29: MSCI Apt. NOI Yield (%)
Chart 30: Apartment Returns Breakdown (%)
Chart 31: REIT Prices (Index, Jan-20=100)
Sources: Refinitiv, REIS, C. Bureau, F. Mac, MSCI, NAREIT, C.E.
Table: Single-Family Indicators
Case-Shiller National (Index)
FHFA Purchase-Only (Index)
Home Sales and Mortgages
Total SF Home Sales (000s Ann.)
New Home Sales
Existing Home Sales
Pending Home Sales (Index)
Total Mortgage Applications (Index)
For Home Purchase
Mortgage Rate (30-Year Fixed, %)
Mortgage Delinquency (30+Days, %)
Mortgage Foreclosure Inventory (%)
Homebuilding and Supply
Single-Family Building Permits (000s Ann.)
Single-Family Starts (000s Ann.)
NAHB Homebuilder Confidence (Index)
Total Months’ Supply of Homes
Months’ Supply of New Homes
Months’ Supply of Existing Homes
Table 2: Multifamily Indicators
CPI Rent of Primary Residence (Index)
Reis Effective Apartment Rent ($)
Zillow Observed Rent Index ($)
Homebuilding and Supply
Multifamily Building Permits (000s Ann.)
Multifamily Starts (000s Ann.)
Multifamily Current Conditions (% Bal.)
Apartment Rental Vacancy Rate (%)
NAREIT Apartment Index ($)
Matthew Pointon, Property Economist, email@example.com