First American: Higher Rates Impede Market Potential in January

First American Financial Corp., Santa Ana, Calif., said its Potential Home Sales model for January fell, hampered by low inventory and rising interest rates.

First American said potential existing home sales decreased to a 5.5 million seasonally adjusted, annualized rate. While this total represents an 81.7 percent increase from the market potential low point reached in December 2008, it fell by 1.9 percent compared to a year ago. Currently, potential existing home sales is 328,000 or 13.8 percent below the pre-recession peak of market potential, which occurred in July 2005.

First American said the market for existing home sales is underperforming its potential by 0.2 percent, or an estimated 9,500 sales, the smallest performance gap in the past 18 months. Last month’s revised underperformance gap was 2.0 percent or 117,000 sales.

First American Chief Economist Mark Fleming said the lack of homes for sale is causing a “matching-trap” in which current homeowners are reluctant to sell because of concern over the ability to find a home to buy.

“While higher mortgage rates did reduce the market’s potential, they also will have the positive effect of moderating house price appreciation,” Fleming said. “More troubling is the lack of homes for sale, which is causing a ‘matching-trap’ where current homeowners are reluctant to sell because of concerns about the ability to find a home to buy and the likelihood that their new mortgage will have a higher rate than their existing mortgage.”

Fleming said low inventory, currently 3.6 months’ supply, continues to be a concern. “Tight supply accompanied by rising prices is more indicative of a market reacting to a shift in the willingness of homeowners to list their homes for sale, and less indicative of a market reacting to a shortage of demand due to affordability issues,” he said. “Restricted demand would result in lower quantity of homes for sale and lower, not higher, prices.”

Additionally, Fleming noted, “higher interest rates discourage the decision to sell because even a new mortgage for an equal amount becomes more expensive in terms of monthly debt-service payments as rates rise.”