Could Interest Rate Cuts Have A Reverse Effect And Drive Housing Prices Even Higher?

The old scientific truism that every action has an opposite reaction explains why the Federal Reserve raises and cuts interest rates. The Covid-19 pandemic led the Federal Reserve to cut interest rates to help keep the economy afloat, and then inflation ensued, which caused the Federal Reserve to raise interest rates. This has caused many real estate sectors to struggle, but could an interest-rate cut have the opposite effect?

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The elevated costs accompanying borrowing when interest rates are near 20-year highs make life difficult at every end of the real estate cycle. Developers must pay more to buy the same amount of land. Many have to refinance halfway-completed projects at higher rates despite being budgeted for continued financing at the previous low rate. Those extra costs either cripple projects or get passed on to buyers.

 However, buyers are in a similar position. Anyone who didn't buy a home before the pandemic has seen their budget slashed because they will likely pay double the interest rate they would've paid before 2022. It hurts in places like California, where the average home price is $900,000. However, high rates affected buyers nationwide, and aside from some Sunbelt markets, buyers began sitting it out.

Now that rates are set to go down, many buyers may be primed to re-enter the market. Could prices begin spiking if enough of them enter the market at the same time? The answer is complicated and depends on several factors. First, there is still some doubt about how much the rate cut will be and its impact on the mortgage rate buyers end up paying.

Realtor.com's chief economist, Danielle Hale, said, "We are going to see Fed rate cuts before the end of 2024, and they're going to be bigger than we expected at the outset of the year." That should certainly lead to some new homebuyers, but it would take a dramatic rate cut for the impact to be felt.

Seth Bellas, who manages a Churchill Mortgage branch in Grand Rapids, MI, told Realtor.com that an additional five million buyers qualify for every 1% decrease in mortgage rates. With that said, nothing in Fed Chairman Powell's public comments would seem to indicate a rate cut of that magnitude is on the horizon. Realtor.com predicts that average mortgage rates will drop from the current 6.47% to an average of 6.3% by year's end.

That may not be enough to spark a buying boom. Realtor.com's senior economist Hannah Jones also noted, "Roughly 86% of outstanding mortgages have a rate of 6% or below, meaning rates will need to continue to trend lower to see a fully re-energized housing market." In other words, it's a little early for prospective homebuyers to put their happy dancing shoes on, but interest rates are trending in their direction.

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The Federal Reserve is looking for the "Goldilocks" zone, where the rate cut is just big enough to spark the economy but not big enough to cause buyers to flood the market and drive prices up too quickly. No matter how big or small the rate cut is, it will certainly lead to new buyers entering or re-entering the market. That means buyers will have to "choose" their poison.

Buyers can choose whether they prefer a challenging market with more buyers due to lower interest rates or higher interest rates and less competition for houses. They will try to balance maximizing the buying power from lower rates and the extra competition that's inevitable in a market with lower borrowing costs. This could lead to buyers having to make multiple offers before closing deals.

Even with that in mind, many real estate professionals believe consumers should buy the house they want if they can afford it instead of waiting for prices or rates to go down. Cassandra Happe, who is an analyst for Wallet Hub, told Realtor.com, "The key is to act strategically in this evolving market. Buyers should consider locking in deals at potentially lower prices now."

So, the interest rate cut may not dramatically affect home prices. Still, even a quarter of a half-point mortgage rate deduction will result in significant savings when hundreds of thousands of dollars are financed for 30 years. September's rate cut will surely bring some buyers off the sidelines, but it's doubtful it will be deep enough to overheat the housing market. 

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The Arrived Homes investment platform has created a Private Credit Fund, which provides access to a pool of short-term loans backed by residential real estate with a target 7% to 9% net annual yield paid to investors monthly. The best part? Unlike other private credit funds, this one has a minimum investment of only $100. 

Don't miss out on this opportunity to take advantage of high-yield investments while rates are high. Check out Benzinga's favorite high-yield offerings.