The direction of prices in the housing market has historically been dependent on the direction of mortgage interest rates. If mortgage rates start to increase, it makes homes less affordable for those who want to buy. The math is simple: the higher the mortgage interest rate, the higher the mortgage payment is going to be for the home owner and the more difficult it becomes to keep up with payments—something we learned in the housing market crash of 2007.

Mortgage interest rates are rising, and I believe the U.S. housing market will suffer as a result. Of course, interest rates are nowhere close to what they were in the 1980s, but they are up significantly this year from their lows. The 30-year fixed mortgage rate tracked by Freddie Mac stood at 4.19% this past October. In the same period a year ago, the rate was sitting at 3.38%. (Source: Freddie Mac web site, last accessed November 12, 2013.)

The effects of demand for housing given higher interest rates can be seen in the chart below. The number of new homes sold in the U.S. housing market has been declining since the beginning of the year.

 Chart courtesy of www.StockCharts.com

In early 2013, the annual rate of new homes sold in the U.S. housing market was close to 460,000 units. This number came in at just 421,000 units in August, down eight percent.

The weakness in the housing market can be seen in the statistics being released by new home builders. For example, D.R. Horton, Inc. (NYSE/DHI), a large U.S. homebuilder, said that in the fourth quarter of its fiscal year 2013 (which ended on September 30) the cancellation rate (that’s the rate of home buyers canceling their purchase contracts) stood at 31%. (Source: D.R. Horton, Inc., November 12, 2013.) Last fiscal quarter, the company’s cancellation rate stood at 24%, and in the second fiscal quarter, it was 19%! The number of people walking away from deals at DR Horton is skyrocketing, and if we checked the rates of other homebuilders, I’m sure we’d see the same trend.

Despite the occasional bounce here and there that comes from this overheated stock market, homebuilder stocks have been declining in price since May of this year. They are telling us something is up with the U.S. housing market, and it’s not good.

What He Said:

“We will wish Greenspan never brought rates down so low as to entice so many consumers to have such big mortgages.” Michael Lombardi in Profit Confidential, April 27, 2004. Michael first started warning about the negative repercussions of Greenspan’s low interest rate policy when the Fed first dropped interest rates to one percent in 2004.