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Housing market demand 'driven by millennials aging into home ownership': Economist

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First American Chief Economist Mark Fleming joins Yahoo Finance Live to discuss the U.S. housing market, mortgage rates, inflation, and rising homebuilding costs.

Video transcript

ALEXIS CHRISTOFOROUS: New home construction unexpectedly rose in December to a nine-month high. That's even as builders had to deal with higher costs for materials and labor and, of course, those ongoing supply shortages. Here with an outlook on the homebuilders for 2022 is Mark Fleming, Chief Economist at First American. Mark, thanks for being with us. I would like to get just your reaction to that surprise jump in home construction last month. And do you think that we're going to see that sustained momentum this year?

MARK FLEMING: Yeah, I think, obviously, it's good news. The housing market writ large can never need enough new homes at this point. We have significant shortages of the housing stock. We've underbuilt for a number of years now. So the more the merrier when it comes to Homebuilding

Not only was it good news this year, but we've seen you basically a 50-50 split in multifamily and single family homes under construction that are at pace is not seen since the 1970s. So an impressive and good number, and more is needed.

KARINA MTCHELL: But what do you expect as far as home appreciation this year? Do you expect that to continue? And then do you expect to see more people being able to switch homes? Or are they going to be locked into staying where they are because of higher costs?

MARK FLEMING: Yes. The simple supply and demand one on one dynamic that you were talking about in the last segment is playing out in the housing market as well-- a shortage of supply relative to a lot of demand largely driven by millennials aging into home ownership. And that's why we've seen so much house price appreciation in the past year. That's expected to continue.

We might see some easing of supply inventory and maybe some reduction in demand as rates rise and affordability is curtailed a little bit. But the imbalance is so big that house prices are expected to continue to rise, albeit not at the same pace as last year. It's sort of the fundamentals of the market. And it's been that way for a number of years now.

ALEXIS CHRISTOFOROUS: We know that affordability continues to be an issue. And a big part of that is supply. We know that there are not enough homes on the market for the entry level homeowner, those millennials that you're talking about. Did some of that home construction-- I know it was fueled by multifamily projects apartment buildings. But were builders busy building entry level homes last month and last year? Or was it more of the high-end luxury homes?

MARK FLEMING: Historically, homebuilders have traditionally not even attempted to serve the lower end of the market. That's done through existing home sales of the smaller homes to entry buyers. But in the last couple of years, because of the dearth of homes for sale in the inventory on the existing side, homebuilders have done a much better job of also building at the lower end.

But I think what's really interesting here is the relative share of multifamily that we're still building so many multifamily units. And I think that largely gets to the fact that if you think about it, we all love shelter. Whether we rent it as an apartment or own it as a home, if there's a shortage of homes or you can't find something to buy, then you're going to rent instead. And so that substitute good is playing out between the two segments, multifamily and for sale owned homes because of the shortages.

KARINA MTCHELL: And then we know rate hikes are coming, right? So what will hire mortgages do to demand and demand for homebuilding? And what other macro risks are there in the year ahead?

MARK FLEMING: Well, we've actually seen a significant move in mortgage rates in the last few weeks. In fact, we're already above 3 and 1/2%. But what's most interesting there in the mortgage application data that also came out today, even though rates have gone up, there's a big surge in purchase demand. We've all heard of the concept FOMO. Well, that's what's in play right now. People are rushing in saying, oh, my goodness, I can see that rates will clearly go up more in the year to come. And therefore, we're basically putting a lot of purchase demand now for fear of missing out on those low rates today.

ALEXIS CHRISTOFOROUS: And we saw an analyst at KeyBank downgrade a number of the homebuilders today, citing those impending rate hikes and higher inflation. And typically, we do see homebuilder stocks pull back during cycles of tightening by the Federal Reserve. Do you think as the year goes on business will get tougher for those homebuilders?

KARINA MTCHELL: That may be true in a balanced supply market. But given the supply imbalances, I continue to see strong demand for both new and existing homes this year. That said, if we get major moves in mortgage rates well beyond 4% or even to 5%, which nobody is forecasting, that would be-- we can handle gradual change in the market. It's much more difficult to handle sudden changes.

That being said, there's no reason to believe that there will be a sudden move in rates to significantly higher levels. And we have to keep in mind that while rates are going up, they're going up from you know historically low levels to begin with. It wasn't too long ago that a 6% mortgage rate was considered phenomenally good. And all indication is it's unlikely we will be well below that even though rates have risen by the end of this year.

ALEXIS CHRISTOFOROUS: Now remember when rates were double digits? I remember that. So I mean, historically speaking, the rates right now, even though above 3 and 1/2%, are still pretty good. All right, Mark Fleming, First American Chief Economist, thanks for being with us.

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