Rising Home Prices and Interest Rates

House prices are currently at a premium, and this is leading some buyers to think twice about making a move in the market. These buyers may consider deferring their purchase until the market stabilizes and prices normalize once again. However, is this really the best option? Waiting for a more stable market could result in the home buyer paying more in interest on their home loan.

There is a series of interest rate hikes on the horizon. The 12 members of the Federal Open Market Committee (FOMC) have already met twice in 2022 — on January 25 and 26, and on March 15 and 16 — and will meet six more times this year in May, June, July, September, November, and December. At each of these meetings, the FOMC will increase interest rates further, impacting heavily on homebuyers.

This means buyers have a serious choice to make — buy a house now at a premium, or buy later at a discounted price but with a potentially higher interest rate?

In Allen, Texas, the median house price is currently $485,000, with many properties selling at a much higher cost. The median price for March 2021 was only $383,000, translating to a growth of 26.6% year on year. Median prices had remained largely stable between April 2019 and April 2021, but activity in the final three quarters of last year saw prices rise sharply.

In Broomfield, Colorado, prices are even higher. In this area of Denver, median listing prices hit $595,000 in March 2021 — a growth rate of 15% year on year from March 2021 when prices were $517,250. However, we can see another trend in Broomfield — the disparity between listing and sale prices. While the current median listing price is $595,000, the median selling price is $661,300. This shows that local property buyers have to go well beyond the listing price to secure the home they want to buy.

But these signs are not as clear-cut as they first appear. Homebuyers need to decide whether it is worth buying a property at a premium in the current market or exposing themselves to interest rate increases by deferring the purchase for the future. If property buyers purchase a house above the median listing price but secure a favorable interest rate, they could end up actively saving money over the full duration of the mortgage.

Indicators from the Federal Reserve suggest that interest rates could rise beyond previously expected levels. In December 2021, the Federal Reserve released a 0.9% projection for 2022. However, during the first quarter of the new year, this projection was re-evaluated and increased to 1.9%. In other words, the Federal Reserve can now raise the Fed Funds' interest rate to 1.9% over 2022 rather than limiting total increases to 0.9%

The FOMC — consisting of the seven members on the Board of Governors, plus the Federal Reserve Bank of New York president and four Reserve Bank presidents in rotation — meet eight times each year. At each of these meetings, the FOMC can potentially raise the target interest rate across each of these meetings. Unfortunately, this does not represent the end of the projected rate increases for 2022. The Federal Reserve also released its forecast for 2023, raising the median federal rate projection to 2.8% for next year — up from the rate of 1.6% suggested at the end of 2021. This is likely to occur over three further interest rate hikes of between 0.25 and 0.5 points before 2024. As yet, no further increases are expected during 2024.

There are two basic options open to homebuyers in today's market. They can choose to:

• Defer their purchase until property prices return to normal levels. In Broomfield, CO, this could see property buyers reducing the price they need to pay by 15%, while in Allen, TX, they could knock as much as a quarter off the price. However, this means acquiring a loan with a higher interest rate — perhaps significantly higher now that the Federal Reserve has revised its projections for the coming years.
• Purchase their property immediately, paying significantly more than they would at normal market prices. This option enables homebuyers to benefit from the current low interest rate — an interest rate that could see them significantly reducing their total expenditure across the duration of the loan.

This is a big call for property buyers. As the typical American mortgage term is around 30 years, increased rates of interest can add thousands of dollars to the total purchase price. 

Property buyers need to make careful calculations if they are to choose the right path in the market. 

With median listing prices in Allen, TX, and Broomfield, CO, currently at $485,000 and $595,000, respectively — and selling prices significantly higher than this in many cases — homebuyers may be reluctant to make a move in this market. However, if they do decide to purchase a property at current prices, they could find themselves saving significant money in the long run. 

The average mortgage interest rate for a 30-year fixed-rate mortgage in 2021 was 3.1%, and this is set to rise with every meeting of the FOMC. Buying sooner rather than later and selecting a fixed-rate mortgage product will protect the buyer against these expected rises. There are still other charges to consider — such as lenders mortgage insurance, as well as property transaction taxes and other fees — but purchasing now at a premium should prove to be a financially sound choice.

• Purchase price at 20% premium over asking: $595,000.
• Loan amount at 10% down payment: $535,500
• Loan term: 30-year fixed rate
• Principal and interest: $2,713,77
• Lower Rate: 4.5%
  

The other option is to wait until property prices normalize once again. This means the property buyer will not have to pay the current extreme prices for their home, but they will be subject to increased mortgage interest rates. 

• Purchase price at normal 3% appreciation, with no premium over asking: $565,00
• Loan amount at 10% down payment: $508,500
• Term: 30-year fixed rate
• Principal and interest: $2,887.21
• Expected rate hike: 5.5%

In the above examples, the rate hike results in a $173.44 difference on mortgage payments, but the buyer of the property without the premium over asking (second example) saves $30,000 at the outset.

This amount can be used to offer a larger down payment, add to personal savings, or work toward other financial goals.

However, after 14 years, the $173.44 difference in mortgage payments will completely offset this $30,000 saving.

The example calculations we have listed above do not provide definitive answers. The values used in each calculation are based upon projected price movements and interest rate fluctuations, and so they are not designed to be a reliable guide to the total price of a property transaction. They also do not include taxes and fees, which will add to the total amount payable over the life of the loan.

Instead, they are designed to indicate the care and consideration that homebuyers need to take. Deferring a purchase may land you with a more amenable upfront house price but may leave you out of pocket in the long term. Conducting the proper market analysis is a critical step toward making the right choice.

Contact our team today to discover more about financing your property purchase, and use our calculation tools to find out more about the total cost of the transaction.