Home News Underlying demand ‘is still very strong,’ analyst says

Underlying demand ‘is still very strong,’ analyst says

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John Lovallo, UBS US Homebuilders & Building Products Equity Research Analyst, joins Yahoo Finance Live to discuss new home sales, the housing market, rising mortgage rates and the outlook for real estate.

video transcript

[AUDIO LOGO]

Akiko Fujita: US new home sales rose unexpectedly in October, driven primarily by demand in the South. Buyer demand is cooling and rising as interest rates rise, according to government data.

UBS US Homebuilders Building Products Equity Research Analyst John Lovallo joins us to discuss what these latest data points mean for the housing market. Let’s talk about this number we got today. Why did we see this surge despite mortgage rates?

John Robaro: Thank you for inviting me, Akiko. Good question. I think this shows that underlying demand for housing is still very strong. I think it could certainly come to a halt when interest rates go up. But with an estimated 3-4 million units accumulated since the global financial crisis, it won’t go away.

And coupled with the fact that there is very little existing housing supply in the market, we’re calling this around three months of supply. They tend to look at new homes. And I think all of these factors are at play.

Akiko Fujita: What have we learned about inventory conversion? As so many homes that would have been on the market before these rate hikes were implemented are now being pushed for rent. I mean, can you talk a little bit about that transition we’ve seen?

John Robaro: Well, if you’re a homeowner and you’re an existing homeowner with a mortgage, it could be less than 5%, often less than 4%. And if you look at what’s in the market today, interest rates are closer to 6.5% and a few weeks back it’s 7%. Going from less than 4% existing assets to 7% is a huge leap.

And I think what it’s doing is forcing a lot of people to kind of stay. But when it comes to existing home sales, you’re kind of locked in if you do.

So I think what the builders are doing is using both sides of the coin. They are buildings for rent as well as buildings for sale. So I think both of these angles will be very important for new home producers.

Akiko Fujita: And John, you have a note, I should say, there’s a bit of a holiday theme here. I doubt homebuyers are confident stabilization will come in time for the holidays. But when do you expect it?

John Robaro: That’s a really good question and a hard question. In general, there is a great deal of volatility in bond markets. However, in a very unusual move, spreads between 30-year fixed-rate mortgages and 10-year government bonds have exploded. 324 basis points. The historical average is about 172 basis points.

This has happened four times since the 1970s. 1981, 1986, 2008 and 2020. There’s always been a fairly sharp correction averaging about 251 basis points.

So, using the economist’s forecast for next year’s 10-year bond, it’s 2.65%. And then throw in an average spread of 172 basis points.

Now I’m not saying it will happen. But what I’m saying is that affordability could be greatly improved if the rates calmed down a bit.

Akiko Fujita: Finally, John, you know, think about the boom heights we’ve seen during the pandemic. Indeed, many investors were also entering the housing market for the returns they could obtain. You said in The Wall Street Journal, which came out yesterday, that there will be a big backlash. It is said to be about 30%.

How dramatically is that going to cool things down? And if you’re a first-time home buyer, is that actually a good sign? Given that many investors have pushed these prices up.

John Robaro: Good question. And it works both ways. As a first-time buyer, I think the most important thing is to have the power to pull off. You can borrow money from mom and dad. You can buy a house with a small footprint. They are very ambitious buyers, such as life events, marriages, and the birth of children. As long as buyers can afford it, they buy.

So I think having investors in the market is certainly robbing them of some of those opportunities. I don’t think we’ll ever run out of investors. So I think what we’re seeing as interest rates skyrocket is a very simple pause not just among investors but among buyers in general.

So as things settle down and as we’ve seen, I think we’ve been lucky enough to see interest rates adjust a bit. So I think not only investors but also traditional buyers will come back.

Akiko Fujita: John Robalo of UBS. Thank you for stopping by today.

John Robaro: you’re welcome. Thank you very much.

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