Demand is not the problem in the housing market: Economist

First American Deputy Chief Economist Odeta Kushi joins Yahoo Finance Live to discuss U.S. pending home sales, building sentiment, mortgage rate volatility, lack of supply, and the outlook for the U.S. housing sector.

Video transcript

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- Pending home sales rose for the third consecutive month, up 0.8% from January. For a deeper dive into the real estate sector, we welcome in Odeta Kushi, First American deputy chief economist. Great to have you on the show, Odeta. So, first, I want to get your reaction to this data and really the state of the housing market at the moment.

ODETA KUSHI: Absolutely. It's great to be here. I mean, the numbers beat consensus expectations. The expectation was that pending home sales would fall this month. And that's really because we had a month where rates went from 6% to 7% by the end of February. So the 0.8% is a modest gain. But it's the third month of increases. And it comes alongside increases in things like builder sentiment, mortgage applications.

So it's a very soft start to the spring homebuying season, which is a very crucial time for the housing industry. So we're off to sort of a soft start. But a lot of demand out there. The issue is really the volatility for mortgage rates and the lack of supply.

- So you say this is a slow start. Then what is the outlook from here?

ODETA KUSHI: It really is dependent on mortgage rates. This is a very interest-rate-sensitive sector. Right now mortgage rates are down a little bit. And so that should help to coax some buyers off the sidelines, really help with affordability.

But then, of course, you can't buy what's not for sale. And so inventory is just so low that we might actually see a bit of an increase in prices because those who are shopping around might be stuck in a bidding war.

- And, as they like to say, real estate is local. So talk some of the markets here that are seeing some of the sharpest changes.

ODETA KUSHI: So the West Coast, in particular the more traditionally expensive markets-- San Jose, LA, San Francisco-- we're starting to see double-digit price declines in those markets from the peak, whereas markets in the Midwest or even Florida, South Florida, Miami, prices are fairly resilient. They're still very high. The pending home sales from today showed that there was regional increases in pending home sales in all regions except the West. So, again, these traditionally more expensive markets are really the ones that are bearing the brunt of this affordability crunch and the decline in the housing market.

- So put this in context for us in terms of how it fares versus 2008 because a lot of people say, housing bubble. But are you seeing that as well?

ODETA KUSHI: No. This time it's different. Or maybe I should say last time it's different. This is a fundamentally different housing market.

We don't have these loose lending standards, subprime mortgages. The fundamentals were really the driver of the house price acceleration over the pandemic. It was an increase in demand and against very, very limited supply. The result of that was house price appreciation.

That was not the case last time around, it was driven by speculative lending practices and fix-and-flip buyers. And we're not seeing that. Consumers that were buying homes are in a much better position.

- And what do you think are some of the risks that perhaps some people aren't really pricing in at the moment when it comes to the housing market?

ODETA KUSHI: Well, the risk right now is if we have a job loss recession. Right now, we're seeing price declines, pretty broad-based price declines. Obviously, some places are more resilient than others. But if you have those price declines alongside job losses, that's really when we're at risk for distress or foreclosures.

You really need both, people have an inability to pay their mortgage and also underwater on their properties, to have the outcome of foreclosure. And right now the job market is very strong. So we're not worried about it at the moment. But if that starts to happen, that's really where I would be concerned.

- And, obviously, this is happening amid a banking crisis that seems to at least be stifled for the moment. But we're looking at what might happen in the future in terms of tighter lending conditions. We know that people have been watching the commercial real estate market. And what about the residential market as well?

ODETA KUSHI: It's a little too soon to tell. I do think we'll probably have some tightening in residential real estate, not to the extent that we'll see on the commercial real estate side. It's interesting because there is sort of this housing benefit from the banking bust because mortgage rates came down. There was all of this uncertainty. Investors sort of flocked to the safety of US Treasury bonds. And mortgage rates declined.

And so you get this affordability benefit from lower mortgage rates. But then, of course, the potential for credit tightening could negatively impact the spring homebuying season.

- And, obviously, this is a snapshot. What else should we be looking at in terms of direction for where the housing market goes from here?

ODETA KUSHI: So, obviously, mortgage rates are the big thing. But recession risk, uncertainty is really the other side. And I think, coming back to demographics, there's all this demand out there.

The problem in the housing is not demand. There are plenty of buyers on the sideline. There's a massive generation of millennials that are aging into their prime homebuying years. And they're waiting for the market to be more affordable so that they can jump in.

So I think from a long-term fundamental perspective, you have this demographic tailwind. And really, the question mark is, what will happen with mortgage rates going forward?

- And even as we look at things like affordability and also availability, when we look at what's happening with construction trends as well, how much more difficult is that going to make the picture?

ODETA KUSHI: That is the question, inventory. The inventory is so low from a historic standpoint right now. Existing homeowners are staying put. 93% of existing homeowners are locked into mortgage rates below 6%. And so in this environment of higher mortgage rates, they don't have an incentive to leave that low mortgage rate.

And so they're not selling their homes. There's sort of the seller's strike in the housing market. And the majority of home inventory is existing home inventory. So if they're not selling, there's nothing out there.

Builders are sort of picking up the slack. So they're gaining market share when it comes to inventory. So if you can't find an existing home for sale, it's possible that you might find a new home for sale because that inventory has been increasing.

- And in terms of how builders are changing, because some that I've been speaking to, who used to do some of these big luxury homes, are now looking at more affordable townhouses, trying to really adapt to these market conditions. What are you seeing at the luxury end versus the lower end of the housing market?

ODETA KUSHI: It's still really hard to build for that first-time homebuyer. The number of projects that are priced below $300,000, which would be where that first-time homebuyer, is very, very limited. It's just not profitable for builders to build at that price point. But certainly that's a price point they need to be thinking about because there's this huge demographic of potential first-time homebuyers that are looking in those price ranges.

- And, as you mentioned, they're waiting on the sidelines.

ODETA KUSHI: Waiting, exactly.

- We'll have to see what they do. Great having you on. Odeta Kushi there, First American deputy chief economist. Thank you for your time this morning.