Real Estate: Home Prices or Interest Rates – Which Has More Impact on the Housing Market?

Since my last article, “Where Have All the Listings Gone?”, the real estate market continues to experience a severe shortage of homes available for sale.  

So, I started to think that perhaps sellers may be waiting for prices to increase.  I suppose you can’t blame them. And I continue to hear that some buyers may be waiting for mortgage interest rates to go even lower. That may be a losing proposition since most experts believe rates will increase in the next few years.

All real estate is local and every situation is different. But this slow-moving market sparked my curiosity to take a look at the relationship between home prices and mortgage interest rates. You might be surprised to see that interest rates have a greater impact on cost/affordability than prices.

Consider a home in Lorton valued at $400,000. To purchase with 20% down and a 30-year fixed rate mortgage at today’s interest rate of 3.5%, a buyer would have a monthly payment of $1,436.94. If however, rates increase to, say, 5.5% (still low by historical standards), that same house would now cost $1,816.92/month. That’s $379.98 more per month and over the course of the loan, it’s an additional $136,792.80 of interest! This is why we have many qualified buyers scrambling to purchase right now at today’s great rates.

If a seller is waiting for, say a 10% price increase over the next 2 years, their house would list for $440,000.  Using my previous example, if interest rates rise to 5.5%, a buyer would now have to qualify for a payment of $1,998.62/month. That’s $561.68 more per month than today’s 3.5% interest rate – and buyers will need more money for the down payment. Sellers, by waiting and hoping to receive a higher price, you might find a dwindling pool of qualified buyers as interest rates rise. Ultimately, that would put downward pressure on prices.

Bottom line, mortgage interest rates affect housing cost and affordability more than sales prices. While every seller wants top dollar for their home, making that a reality will become more difficult as mortgage interest rates increase and qualified buyers become harder to find.

Ron Kowalski, Managing Partner at Ron & Susan Associates with Re/Max Gateway