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During the month of November, the market potential for existing-home sales decreased by 2.1 percent compared to October, according to First American’s proprietary Potential Home Sales model (previously called the Existing-Home Sales Capacity model), which provides a gauge on whether existing-home sales are under or over their long-run potential level based on current market fundamentals.

According to the model, the seasonally adjusted, annualized rate (SAAR) of potential existing home sales is up 72.6 percent from the low point reached in February 2009. The potential home sales rate in the model decreased by 118,500 (SAAR) in November. The rate of potential home sales in the model is down 810,000 (SAAR) from the most recent peak in February 2014.

The model’s current underperformance gap is an estimated 147,000 (SAAR), which is significantly less than the sales potential gap of 1.7 million existing-home sales in February 2014.

Chief Economist Analysis: The Price of Admission for Homeownership Will Rise
“The model indicates the housing market’s potential for existing-home sales continued to pre-adjust to the increase in the Federal Fund Rate announced recently by the Federal Reserve,” says Mark Fleming, chief economist, First American. “While the increase in the short-term rate only indirectly influences long-term interest rates, the Fed signaled a continued modest path of rate increases. According to the model, a modest path of rate increases will moderately increase the cost of mortgage financing and reduce the pace of house price appreciation in 2016. The rise in interest rates combined with a continued, yet slower, pace of appreciation were the most important market fundamentals that reduced the potential home sales rate in the model this month.”

“Our Real Estate Sentiment Index (RESI) indicated that first-time homebuyers are the most likely to be impacted by rising rates, but that their home-buying decisions will likely be unaffected until mortgage rates surpass 5 percent. Existing homeowners, mostly with fixed-rate loans, will be less impacted by any potential increase in long-term mortgage rates.”

Fleming adds, “With or without Federal Reserve intervention, the income a first-time homebuyer will need to buy today’s starter home a year from now will increase. Yet, I estimate the difference to be only $700 dollars more in 2016 as the Fed starts to raise rates. The price of admission for homeownership will rise, in part because of the leverage-assisted asset inflation caused by the low-rate environment. The time for rock-bottom mortgage rates needed to end and the end of this era will only have a very modest impact on affordability for the first-time homebuyer.”

“I expect existing-home sales to reach 5.5 million (SAAR) by the end of 2016. Housing demand will be dominated by emerging ethnically diverse first-time homebuyer households, as older existing homeowners will have a reduced incentive to sell their homes in a higher rate environment,” says Fleming.

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