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Could rising mortgage rates derail the housing rally?

July 02, 2013

| MoneyRates.com Senior Financial Analyst, CFA

Last Tuesday the stock market responded favorably to the latest S&P/Case-Shiller Home Price release, which showed a continuing rally in housing prices. But given the recent trend in interest rates, even this new report may be old news.

The housing release showed a record increase for April, and double-digit gains for housing prices over the past year. Unfortunately, as mortgage rates move higher, it creates a different set of conditions than those faced during that rally in home prices.

Right now, the economy is like a mystery, and reviewing emerging economic indicators is like sifting through clues. Some clues answer questions, while others merely provide hints. As enthusiastic as the stock market and the media were about the latest housing data, this information isn't really current enough to answer any questions -- and there are certainly plenty of questions.

Key questions

Here are some of the key questions about interest rates that remain to be answered:

  1. What impact will higher mortgage rates have on home prices? The Case-Shiller Home Price Index is based on three months worth of data, with the June 25 release comprising data from February, March and April. Current mortgage rates are significantly higher than they were then, so the housing prices being reported now still don't reveal anything about what impact higher mortgage rates will have.
  2. Will higher rates also act as a drag on the economy at large? It's easy for any homeowner to understand how higher mortgage rates could slow down the housing market, and higher interest rates in general can have a similar effect on many aspects of economic activity. Employment growth remains the key: If new jobs continue to come into the economy at a reasonable pace, it will indicate that employers are undeterred by higher interest rates, and that more paychecks will be joining the consumer market.
  3. Will mortgage rates follow bond yields by continuing into higher territory? After a sustained rise, mortgage rates eased back in mid-June, while Treasury bond yields continued to rise. If mortgage rates stop rising soon, the effect on housing should be muted, but if they follow the course that Treasury bonds are leading, it will become tougher and tougher for the rally in home prices to continue.
  4. When will savings accounts see higher rates? Current mortgage rates have already risen enough to affect consumers, but depositors in CDs, money market and savings accounts have yet to see higher rates. Savings accounts and other deposits will probably be the last area to respond to higher interest rates, so when you see banks raise deposit rates, you'll know that the trend toward higher rates has been firmly established.

Some of these questions will take months to be answered, but this Friday's release of the June employment report will at least provide an update on how the economic recovery is surviving the rise in interest rates.

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