In the early weeks of 2022, the state of the economy is characterized by a surprisingly tight labor market, record levels of inflation, a significant jump in the 30-year fixed mortgage rate, volatile building material costs, and supply chain issues on top of uncertainty brought about by the omicron variant of COVID-19. Inflation, ranging between 5.5% and 7% depending on the source and factors considered, remains a major area of concern for not just the housing market but the economy overall, Zonda chief economist Ali Wolf said during the latest COVID-19 Update webinar.
“Inflation probably is the No. 1 risk to the market right now,” says Wolf. “Both the CPI [Consumer Price Index] and the PCE [Personal Consumption Expenditure] are pointing to very high levels of inflation. If you thank back to what is deemed to be the right level of inflation, it’s an average of 2%. So, clearly we are at a level that is not healthy and not at a level we would want to sustain.”
Wolf says that while leading economists are projecting inflation could range from 2.7% to 7.5% in 2022, Zonda is forecasting that the level of inflation will start to go down throughout the year.
“We forecast inflation will come down to 3.5% by the end of the year,” Wolf says. “[In this scenario], there is an aggressive Federal Reserve, raising rates four to five times, demand is strong, but we start to see a more even balance between goods and services, the supply chain gets better, and higher wages start to entice some of those people who left the labor force to get back in. To me, that seems like a more rational thought process of where we could wind up.”
How inflation develops will play a role in the Federal Reserve’s behavior with the Federal Funds Rate and the short-term interest rate and could factor into the movement of the 10-year treasury, which could factor into the movement of the 30-year fixed mortgage rate.
“Anyone forecasting interest rates needs to capture what is happening with the 10-year treasury, what is happening with the economy, what the Federal Reserve is anticipating doing, and how investors are taking this information,” Wolf says. “The forecasts of financial economists is that the 10-year is likely to go up from here, which tells us the 30-year is likely to go up as well. Our forecast was 3.5% at the end of 2022. I think what we all should be expecting is some volatility and sensitivity to what is happening with those interest rates.”
Tightness in the Labor Market
The number of total nonfarm payroll jobs is 3.6 million below the pre-pandemic peak, and the employment-to-population ratio and the labor force participation ratio are also below pre-pandemic levels. Wolf says she is increasingly skeptical that workers who stepped out of the labor market during the pandemic will return to the labor force.
“We know that some of [the labor market exits] were retirements, some of it was forced retirement, some of it was early retirement,” Wolf says. “And we know that the cost of child care and the fact that there are sporadic schedules and shutdowns at child care are causing some people to fundamentally change and evaluate how they are living their lives.”
Another indication of the tight labor market is the unemployment rate: 3.9%. Just prior to the pandemic, the unemployment rate was around 3.4% and 3.5%.
Housing Sales and Trends
Wolf says while some seasonality returned to the housing market in 2021, activity in November and December continued to deviate from typical seasonal trends. The average sales rate per month per community in December 2021 and 2020 was nearly 3, much higher than an average of 1.9 for 2018 and 2019.
“This does show that strength and inherent demand from consumers continued to be hanging with us into the end of last year,” Wolf says.
One byproduct of continued high demand among the low-inventory environment is an increasing number of builders intentionally capping sales, according to Wolf. While the percentage of builders capping sales slowed significantly during the slower periods of 2021, Zonda data indicates nearly 90% of builders were intentionally capping sales this month. Wolf says this behavior clouds the ability to see the true current market and project market potential.
“We track sales, but also we know that we have to layer in some of the qualitative information of what is happening on the ground with builders,” Wolf says. “They’re running into a bunch of production capacity issues, which is making them have to adjust their overall strategy.”
According to Zonda data, new-home community counts are down 10% to 40% on a year-over-year basis depending on the market, and active listings are down between 10% to 50% depending on the market on an annual basis. Wolf says the active market is beginning to follow a seasonal pattern again after a complete deviation from seasonality in 2020.
Real-Time Housing Data
According to a mid-January survey of builders by Zonda, 90% of respondents said demand was either on track with what was expected or stronger during January. Additionally, 40% of builder respondents said it is already feeling like the beginning of a typical spring selling season.
“For those homes that are available, there is still a lot of interest, and people are trying to scoop up a home in this environment,” Wolf says.
The survey also found that between 90% to 95% of builders increased prices on a month-over-month basis. The share marks a reversal from the summer months of 2021, when the share of builders increasing prices dropped to 60%. In addition to the higher share of builders increasing prices, those increasing prices are reporting the volume of increases are much higher that in the final few months of 2021. While the majority of price increases during the end of 2021 were between $3,000 and $5,000, nearly a third reported price increases this month have been higher—between $10,000 and $20,000. Wolf says many builders have reported that the price increases are a direct result of lumber prices spiking up again.
Despite the higher prices and rising interest rates, builders are reporting lower levels of buyer hesitancy and fewer challenges from a buyer point of view.
“I think there’s been a mindset shift, where for a while a lot of people said buyers were concerned about buying at the top, and I think at this point we’ve had such an interesting and challenging dynamic that some buyers are afraid that if they don’t buy [now], they might miss out on ever being able to buy.”
