Mortgage rates rose to a 12-week high in the first week February, and a further rise in the 10-year Treasury yield to 1.5% means they will increase to around 3.2% by the end of the year. Alongside surging house prices and record low inventory, that implies home sales will drop back to their pre-COVID trend over the coming months. Indeed, pending home sales have fallen in each of the four months to December. (See Chart 1.) Renewed lockdowns and the expiration of government income support led to a further drop in apartment net absorption in the fourth quarter, and a rise in rental arrears. Combined with a fall in rental growth, that cut NOI and pushed yields down further. But a new round of stimulus checks, with more support on the way, will boost rental demand this year and help bring vacancy rates down from last year’s 5.2% to 5.0% by end-2021.
- Mortgage rates rose to a 12-week high in the first week February, and a further rise in the 10-year Treasury yield to 1.5% means they will increase to around 3.2% by the end of the year. Alongside surging house prices and record low inventory, that implies home sales will drop back to their pre-COVID trend over the coming months. Indeed, pending home sales have fallen in each of the four months to December. (See Chart 1.) Renewed lockdowns and the expiration of government income support led to a further drop in apartment net absorption in the fourth quarter, and a rise in rental arrears. Combined with a fall in rental growth, that cut NOI and pushed yields down further. But a new round of stimulus checks, with more support on the way, will boost rental demand this year and help bring vacancy rates down from last year’s 5.2% to 5.0% by end-2021.
- Economic indicators: The modest 4.0% q/q increase in GDP in the fourth quarter, and muted 49,000 rise in payrolls in January, both reflected the resurgence in COVID-19 infections late last year. However, infections are now dropping back sharply and, combined with the recent fiscal boost, we expect employment and economic growth to rebound over the coming months.
- Single-family: Mortgage applications for home purchase dropped back in the first week of February and are set to fall further as mortgage interest rates rise. Both new and existing home sales will moderate over the year, but record low inventory will support homebuilder confidence and help single-family starts remain close to their current level over 2021.
- Multifamily: Rising rental arrears and rental vacancy rates, and a fall in rental growth to -3.0% y/y, meant NOI declined by 5.2% q/q in the fourth quarter. But as the economy recovers and new government support arrives, rental demand will recover in 2021. Indeed, asking rents in major cities are now stabilising. However, thanks to a rise in capital values, yields are unlikely to rise this year.
Chart 1: Existing & Pending Home Sales
- The 4.0% annualised gain in fourth-quarter GDP was a marked slowdown on Q3, mainly due to weakness in consumption, which was dragged down by the resurgence in coronavirus infections (2). That weakness continued into 2021 in non-farm payrolls, which increased by a muted 49,000 in January (3). There were widespread declines, with manufacturing, retail, transportation and health care all losing jobs. And a lot of the strength in state & local government and private education may represent the unwinding of an earlier distortion (4).
- However, infections are now dropping back (5). Combined with the recent fiscal boost, and the prospect for additional support, we expect employment and economic growth to rebound over the coming months. The fall in core CPI inflation to 1.4% in January, from 1.6%, illustrates that price pressures remain weak (6). But base effects will drive both core and headline inflation back above 2% over the coming months.
- However, the Fed’s recent adoption of a flexible inflation target means it will keep its policy rate at near-zero until 2024. And, while longer-term interest rates are set to edge up, we expect the 10-year Treasury yield will end the year at around 1.5%, lower than at any point from 2010 to 2019 (7).
Chart 2: Real GDP
Chart 3: Non-Farm Payroll Employment (Millions)
Chart 4: Employment by Sector (Feb 20=100)
Chart 5: COVID-19 Infections & Deaths
Chart 6: CPI Inflation (% y/y)
Chart 7: Fed Funds & 10-Year Treasury Yield
Sources: Refinitiv, C.E.
- The 30-year mortgage rate edged up to 2.96% in the first week of February, a 12-week high (8). After gains in refinancing and home purchase applications in January of 14.5% m/m and 5.5% m/m respectively, that is moderating demand (9). Given that the boost to affordability provided by low interest rates has been eroded by higher house prices, purchase applications are likely to edge back further over the year.
- Indeed, rising 10-year yields imply mortgage rates will edge up further this year. We now expect the 10-year yield to end the year at 1.5%. However, a narrowing spread between the 10-year Treasury yield and 30-year mortgage rate will keep rates relatively low (10). Several factors have caused the spread to narrow, (see Update), including the Fed’s commitment to purchase $40bn of MBS a month (11). We expect the spread will drop back to around 175bps, leaving the 30-year mortgage rate close to 3.2% by end-2021.
- New home sales rose a modest 1.6% m/m in December and, with pent-up demand having largely worked itself through, we expect the recent run of weak or falling sales to continue (12). Admittedly, existing home sales surprised on the upside with a 0.7% m/m rise. But the four-month run of declines in the pending home sales index points to a drop in sales over the next couple of months (13).
Chart 8: 10-Yr Treasury Yield & 30-Yr Mtge Rate (%)
Chart 9: Mortgage Applications (Index)
Chart 10: Mortgage Rate Spread (% Points)
Chart 11: Fed Holdings of Agency MBS ($bn)
Chart 12: New Home Sales (000s Ann.)
Chart 13: Existing SF & Pending Home Sales
Sources: Refinitiv, MBA, NAR, C. Bureau, Federal Reserve
Single-Family Market (Continued)
- The spike in homeownership earlier last year reflected survey issues caused by COVID-19. But an improvement in the share of in-person interviews brought the rate back down in Q4 (14). The number of homes for sale is at a record low, making it difficult for prospective buyers to find suitable properties (15). We therefore expect home sales will fall back over 2021, keeping the homeownership rate close to 65.5%.
- The recent easing in new home sales, coupled with increasing production constraints, has caused a slight dip in homebuilder confidence (16). But that didn’t prevent a 12.0% m/m increase in starts in December. The 7.8% m/m increase in building permits argues against a substantial fall in starts over the next month or two, but we expect starts will flatten out due to lot, labour and material constraints (17).
- House price growth continued to surge in November, and at 11% y/y, the rise in the FHFA index was the highest since records began in 1992. But the recent levelling off in the new Common Haus Price Index supports our view that house price growth will soon top out (18). In contrast, the Q4 HVS survey showed a 5.4% fall in median asking prices (19). But we suspect this reflects expensive suburban houses leaving the market, as wealthy households moved from their city apartments during the pandemic. (See Update.)
Chart 14: Homeownership Rate (%)
Chart 15: Homes for Sale (000s, S. Adj.)
Chart 16: NAHB Homebuilder Confidence & SF Starts
Chart 17: SF Starts & Building Permits (000s Ann.)
Chart 18: House Prices (% y/y)
Chart 19: HVS Median Asking Prices (% y/y)
Sources: Refinitiv, C. Bureau, NAR, C-Shiller, FHFA, NAHB, Haus
- Renewed lockdowns combined with the expiration of government income support hit rental demand in the final quarter of the year, and the net absorption rate fell to an 11-year low of 0.14% (20). However the rise in apartment vacancy rates was relatively modest. REIS reported a rise to 5.2%, up from 4.7% a year earlier, and the Census Bureau reported a slight dip in the multifamily rental vacancy rate to 8.5% (21).
- Even in the cities hardest hit by COVID-19, vacancy rates have not surged. At 4.7% in the final quarter, vacancy rates in NYC are back to where they were in late-2017. Boston is something of an exception, with a rise to 6.0%, close to an 11-year high (22). One factor preventing a larger rise in vacancy has been a fall in apartment completions. According to REIS, just 34,400 units were completed in Q4 2020, the lowest since the start of 2014 (23).
- The fall in completions has not been accompanied by a drop in MF starts or building permits (24). But given a large pipeline of developments we expect construction activity will edge down this year. MSCI reported a substantial fall in apartment NOI yields in the final quarter of 2020. From 4.0% in the third quarter, yields fell to 3.8% (25).
Chart 20: Net Absorption Rate (%)
Chart 21: Apartment Rental Vacancy Rate (%)
Chart 22: Selected Apartment Vacancy Rates by City (%)
Chart 23: REIS Apt. Completions (000s)
Chart 24: MF Starts & Building Permits (000s Ann.)
Chart 25: MSCI Apt. NOI Yield (%)
Sources: Refinitiv, REIS, C. Bureau, MSCI
Multifamily Market (Continued)
- That drop in yields reflects a fall in NOI growth, rather than rising capital values. NOI declined 5.2% q/q in the final quarter (26). Alongside the rise in vacancy noted above, that decline looks in part to be due to a rise in rent arrears. The expiration of government income support toward the end of last year led to a steady rise in arrears relative to a year earlier (27). But the issuance of new stimulus checks in January, and the prospect for more income support, means arrears should ease back over the next few months.
- Falling rents will also have hit NOI. According to REIS, apartment rental growth dropped to -3.0% y/y in the fourth quarter, and other measures have also shown a significant slowdown (28). However, as the economy recovers rental growth should pick-up. Indeed, more timely data from Apartment List shows annual asking rent growth in NYC, Boston and San Francisco rose sharply in December and January (29).
- Falling yields and capital values combined to push annual total returns to 1.7% in the fourth quarter, an 11-year low (30). Looking ahead yields are set to stay low, but that will be due to a recovery in capital values, helping total returns to recover. An improving outlook for capital values has been reflected in REIT valuations, with apartment REITs now only 9% below their level at the start of last year (31).
Chart 26: MSCI NOI Growth (% q/q)
Chart 27: Rent Paid by End-Mth (Diff. from Last Yr, pps.)
Chart 28: Rental Growth (% y/y)
Chart 29: Apt. List Rental Growth (% y/y)
Chart 30: Apartment Returns Breakdown (%)
Chart 31: REIT Prices (Index, Jan-20=100)
Sources: Refinitiv, NMHC, REIS, MSCI, NAREIT, F. Mac., Apt. List.com
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 ($)