What is happening with the housing market? Why big interest rate hikes are scrambling an already strange real estate landscape.

The story of the housing market for much of 2020 and 2021 was one of shortage — at least compared with what people wanted and were able to buy.

High prices and low inventory spread out to places that hadn’t normally experienced them. As urban dwellers didn’t need to go the office anymore and maybe wanted more space and better weather, the shortages and high prices familiar to a few of the hottest housing markets found their way across the country. Underlying this surge of activity was the Federal Reserve slashing interest rates to near zero, bringing mortgage rates to near-historical lows. This amped up housing demand even further, as high sale prices did not necessarily translate into much higher monthly payments.

The median sale price of homes jumped from $333,000 in the second quarter of 2020 to $430,000 in the first three months of this year. But at the same time, thanks to interest rates falling to near zero, affordability did not change that much, according to data from the National Association of Realtors (NAR). The times were great for sellers, however, as the market got extremely tight. Before the onset of the pandemic, there were just over 1 million active home listings; that figure bottomed out at around 375,000 and is now just over 400,000.

In the past year, mortgage rates have jumped from just under 3 percent a year ago to 5.5 percent after peaking at 5.8 percent, the highest level they’ve reached since 2008. While this is by no means the highest rates have been, it is some of the fastest acceleration of rates in recent history. Doubling in a year is extreme; it most certainly will have an effect on the housing market.

Grid answers your biggest questions on what is causing the supply crisis in housing and what it means for those buying or selling a house right now.

Why has the housing market been so tight?

Big cities saw their population fall, while basically anywhere else saw increases, including smaller cities and rural areas.

How big is the current jump in mortgage rates?

Historically, 30-year mortgage rates of around 5 percent are not particularly high (mortgage rates were typically well above this level in the 1990s and 2000s), but what is unprecedented is the rate at which they have accelerated. Nothing like this has been seen since the early 1980s when, not coincidentally, inflation was incredibly high and the Fed slammed on the brakes in order to slow it down.

What might the interest rate increases do to the housing market?

This has two effects on the housing market.

One is that interest payments as a portion of total payments are up. Even as home values rose dramatically in the past few years, housing affordability did not decline much because of the fall in mortgage rates.

In May of 2021, according to the NAR data, the monthly mortgage payment on what was then the median home price, $361,300, with 20 percent down, was $1,220, 17 percent of the median family income. This past May, the median home price was $414,200, and the mortgage payment was $1,842, which takes up 24.4 percent of the median family income. In 2019, typical mortgage payments took up almost 16 percent of the NAR’s figure for median family income.

In some of the hottest markets, we are seeing evidence of declines. According to Redfin, housing prices were up 11 percent over the past year in June, but in some of the hottest markets, like Austin or Nashville, Tennessee, prices were still up from a year ago but have started to fall.

Is it better buy a home right now or wait?

There’s some anecdotal evidence that while there have already been dramatic rate hikes, the expected future increases in the 30-year mortgage rate will lead to buyers accelerating purchases to get ahead of further increases.

There’s also an even stranger possibility — that the combination of high rates and slowed or even reversed growth in home prices will lead to homeowners doing everything they can to keep their homes off the market for fear of not getting as much for their current home as they expected and having to go out and get an expensive mortgage. They could instead rent out their homes and then use the rental income to pay off a new mortgage.

What about renters?

What if you need to sell your house?

Jay Parsons, the head of economics for RealPage, a real estate software company, suggested that with rates moving up — and with more rate hikes on the way — along with “fears around potential peak price” could cause a “freezing effect” on the market.

“I suppose for some small number of deep-pocketed homeowners needing to relocate, they could potentially hold onto their current home as a rental property if they’re not convinced they’ll get the pricing they want to sell. But I can’t imagine that happens at … scale to move the needle.”

What if there’s a recession? But of course interest rates don’t just move on their own, Parsons explained. An overall economic slowdown, or even a recession, can have its own independent effects on the housing market. Household formation could slow down as people move back in with their parents or children or decide to live with roommates. This could slow down home sales and drag down prices.

One increasingly popular explanation for the housing shortage is increasing investment of private equity in real estate. What do we know about private equity’s effect on the housing market?

One of the most commented upon and lamented trends in the housing market is the presence of large investors who purchase homes, especially single-family homes, and rent them out. While the presence of investors in multifamily housing is nothing new — after all, someone with enough money must own the whole building if it’s going to be rented out — since the financial crisis, the presence of investors in the single-family market has increased.

How do big investors buying up houses affect housing costs for everyone else?

However, for every buyer of a home, there is a seller. While the market for single-family rentals for large, institutional investors is largely a post-financial-crisis phenomenon, and foreclosures have been falling. This means that many Black and Hispanic homeowners are likely seeing some benefit from these investors’ willingness to buy in neighborhoods that wealthier and white homeowners may have ignored.