Low Rates Continue To Prop Up Affordability

You can get access to the spreadsheets used to make the charts in this and other posts by becoming a member of Seattle Bubble.

It was recently requested that I take a refreshed look at the affordability stats, so here’s an updated look at our affordability index charts for the counties around Puget Sound.

As of May, affordability is still not great for home buyers, but it would be much, much worse if not for the current absurdly low interest rates.

Median home prices have surged this spring (as is typical for this time of year), while interest rates are near the record-low levels they hit in late 2012. The affordability index for King County currently sits at 98.5. An index level above 100 indicates that the monthly payment on a median-priced home costs less than 30% of the median household income.

King County Affordability Index

I’ve marked where affordability would be if interest rates were at a slightly more sane level of 6 percent—74.7, which is worse than any point outside of early 2006 through late 2007.

If rates went up to a more historically “normal” level of 8 percent (the average rate through the ’90s), the affordability index would be at 61.0—even lower than the level it dropped to at the peak of the previous housing bubble in 2007.

What if rates were at 6.7 percent, the same level they were at in July 2007 when the affordability index bottomed out at 65.2? At that rate with today’s home prices and incomes, the affordability index would currently be 69.4.

So basically, were it not for stupidly-low interest rates, we would be in extreme housing bubble territory right now.

Here’s a look at the index for Snohomish County and Pierce County since 2000:

Snohomish / Pierce County Affordability Index

The affordability index in Snohomish currently sits at 127.2, while Pierce County is at 155.3.

Tomorrow I will post updated versions of my charts of the “affordable” home price and income required to afford the median-priced home. Hit the jump for the affordability index methodology, as well as a bonus chart of the affordability index in the outlying Puget Sound counties.

Outer Puget Sound Counties Affordability Index

As a reminder, the affordability index is based on three factors: median single-family home price as reported by the NWMLS, 30-year monthly mortgage rates as reported by the Federal Reserve, and estimated median household income as reported by the Washington State Office of Financial Management.

The historic standard for “affordable” housing is that monthly costs do not exceed 30% of one’s income. Therefore, the formula for the affordability index is as follows:

Affordability Formula

For a more detailed examination of what the affordability index is and what it isn’t, I invite you to read this 2009 post. Or, to calculate your the affordability of your own specific income and home price scenario, check out my Affordability Calculator.

0.00 avg. rating (0% score) - 0 votes

About The Tim

Tim Ellis is the founder of Seattle Bubble. His background in engineering and computer / internet technology, a fondness of data-based analysis of problems, and an addiction to spreadsheets all influence his perspective on the Seattle-area real estate market. Tim also hosts the weekly improv comedy sci-fi podcast Dispatches from the Multiverse.

29 comments:

  1. 1
    Doug says:

    The title of this post could equally be, “Low Home Prices Continue To Prop Up Affordability”.

    Of the 2 variables that drive a monthly payment in the context of affordability, why do we automatically assume that rates are the mispriced one and not the asset price itself? Maybe rates are correct and the median SFH price should actually be $700k?

    However absurd this sounds, my point is just that low rates are here to stay. The days of 8% mortgages are gone and never coming back. The Fed has finally admitted as much per Yellen herself last week when she said that the natural rate will just be lower than the one in past decades; further emphasized in the committee’s collapsing dot plot forecasts.

    We’ll see a 0% mortgage before we see an 8% mortgage.

  2. 2
    Marc says:

    By Doug @ 1:

    However absurd this sounds, my point is just that low rates are here to stay.

    I definitely agree with this at least in the medium term of 3 to 5 years. More than 5 years is entirely possible but I’m not so pessimistic as to flatly rule out the possibility of significant improvements in productivity in coming years.

    What I’m trying to determine is how to manage my investments in the face of this expectation. I fully expect a recession within the next 12 to 18 months and I’m quite certain that will keep interest rates as low or lower than they are today. I have a rental property in a great Seattle neighborhood that I can keep or sell as early as next spring. Part of me thinks keep it long term because it cash flows so well. The other part of me remembers all of the fire sales I saw in 2011-2012 that I couldn’t capitalize on because I didn’t have dry powder. And I’m talking both real estate and stocks. I don’t think the next recession will be as severe as 2007-2009 or at least not felt as severely here in the Seattle metro, but it will hit hard in some places and that means buying opportunities.

    Ever since 2012 when I saw fairly new 3 bedroom homes just a few miles from the Vegas Strip selling for $25,000, I have dreamed of having ready-cash for the next time the streets run red. Oh why didn’t I have the stones to buy one of those d@mn things.

  3. 3
    Sam Hunter says:

    Agree with Doug, these low rates are the future — the Fed may even go negative.

    The real housing bull run hasn’t even begun. Home prices will double by 2020.

    Poor Tim will lose most of his hair during the run up, but will finally have a chance to be right at a bubble popping a few years later.

  4. 4
    Erik says:

    RE: Marc @ 2
    I agree with Sam Hunter. This website notoriously likes to freak everyone out. The hysteria is in its infancy. Bubbles accelerate as they near an end. The next president will get in there and offer 0% down negative am loans and we’ll be off to the races like 2005. That’s when you should sell.

    Also, Corndogs just kept all his houses and watched rental prices go up as poor people were displaced from their homes and forced to rent from him. He was laughing the hole time buying a new house and racking up large bar tabs. Didn’t seem like a bad deal to ride it out because of the cash flow.

    He said “Renting out houses is an investment. Buying and selling is a second job.”

  5. 5
    Doug says:

    RE: Marc @ 2 – Who knows if it will be a good or bad idea to sell, but I like that you’re already thinking about where your dry powder will come from. What about a HELOC?

    We all suffer from recency bias. I’ll bet the next big opportunity will be in an asset class outside of real estate – no idea what, but probably something else. Maybe junk bonds? Maybe gold? Or maybe I hang around Zero Hedge too much.

  6. 6
    Marc says:

    RE: Doug @ 5 – I definitely think I’ve been reading too much ZeroHedge. I am usually more of a bull than a bear but lately I can’t resist tuning in to see the prognostications over there. I definitely agree with much of what they say in terms of central banks having completely twisted global economics like never before via QE, NIRP, and ZIRP and that the house of cards will fall. But the timing element is brutal. How long will it be before it blows??????

    It could literally be tomorrow or three years from now. What to do, what to do.

    The only thing I know is that I am very grateful to be a in a position to potentially benefit when it happens. But that can change pretty easily and one false step or late move could be the difference between disaster and easy street.

  7. 7

    More than anything else, future interest rates will be dependent upon future inflation. Given that, it’s not surprising that Yellen, whose job it is to keep inflation in control, would think that future interest rates would be low. She thinks she will be able to do her job well and keep inflation in control, and therefore thinks interest rates will remain low.

  8. 8
    Justme says:

    People have already started to wake up to the fact hat FRB/Yellen/Bernanke/Greenspan always saw their jobs as maximizing asset inflation while minimizing wage inflation. In other words, maximizing wealth for the top 0.1% while reducing the middle class to poverty. The rise of Sanders and Trump is a symptom of the unrest of the masses. The masses will eventually revolt. There already has been massive inflation in housing and rent that is intentionally defined out of the way CPI is calculated.

    General principle: The official/stated function of any institution NEVER is the real function of that same institution.

  9. 9
    Screenname345 says:

    The Fed is probably going to negative rates at some point. I see no reason for housing to go anywhere but up but that is what has me concerned. Probably clear sailing for a few more years but there has to be an economic slowdown out there and that should impact housing in Seattle. One scenerio could be there is a recession in a few years and there are mass layoffs in the tech sector especially from bay area companies that have extra staff here. Maybe Amazon stock takes a huge hit which it usually does at some point and they decide to layoff to keep investors happy. Same with Mister Softie. This is still a few years out though. The stock market doesn’t want to go down and that is going to determine housing prices around these parts.

  10. 10
    Doug says:

    RE: Screenname345 @ 9 – I’m not sure if I see Seattle taking a material hit and even less sure about seeing Amazon taking a hit, but I’m probably just bias.

    I do, however, see a continued mass migration to coastal cities with each periodic business cycle recession continuing to gut the middle of the country. We’ll wake up in 50 years and see that 80% of the US is spread only between Seattle, SF, LA, NY, and DC. Or something like that.

  11. 11
    GoHawks says:

    Pretty striking how far we are away from extremely affordable territory we are. Given the backdrop of momentum, feels like this thing still has room to run, another 12-18 months.

  12. 12
    Andrew says:

    Re Doug @#1: “However absurd this sounds, my point is just that low rates are here to stay. The days of 8% mortgages are gone and never coming back.

    We’ll see a 0% mortgage before we see an 8% mortgage. ”

    The first point is absurd. Never coming back? That’s about as sensible as the housing bulls saying housing prices would never drop back to values 10 years previous. Yet it did. Eventually we’ll see 8% interest rates again, and possibly even 18%. Your second point might well be closer to the truth. I doubt we’ll ever see a 0% mortgage, unless the fed goes to -2% or lower.

    Re The Tim @ OP: With your affordability assumptions you are neglecting that if rates go up half again or double from the current levels housing prices won’t remain static. In a 6%, never mind 8% mortgage world we’d see housing prices come down, at least in real terms if not nominal terms. While the affordability index would probably still get worse than where it is now, assuming the broader Puget Sound economy remains reasonably strong, it wouldn’t be anywhere near as dramatic as you state.

  13. 13
    Justme says:

    RE: Doug @ 10

    >>I do, however, see a continued mass migration to coastal cities with each periodic business cycle recession continuing to gut the middle of the country.

    Actually , the reverse is occurring. People are migrating to midwestern towns like Detroit, because the COL is much lower there.

    QUOTE: “In Michigan, Detroit and Grand Rapids saw the number of homes sold surge by more than 50 percent from last year. ‘We’re seeing an influx of buyers from places like San Francisco, Southern California, Seattle and Washington, D.C. Most new residents are lured by tech jobs and opportunities to work remotely,’ said local Redfin agent Kent Selders. ‘Locals are watching prices rise, and many realize if they don’t buy soon, they’ll miss out while homes are still affordable. The result is incredible demand and rapid sales. Nothing like this has ever happened in Grand Rapids.’” ENDQUOTE

    http://thehousingbubbleblog.com/?p=9665

    I might add that some of those midwestern university towns like Ann Arbor (MI), Madison(WI), and Urbana(IL) may not be a bad alternatives to expensive “coastal” areas. Of course, the local peddlers are out in force talking up their product, but the pricing is still half of Seattle in many places.Yeah, indeed “people have to live somewhere”, but it does not have to be Seattle.

  14. 14
    Blurtman says:

    RE: Justme @ 13 – I lived in the Ann Arbor area. We bought a home on 10 acres for a fraction of a Bay Area home, where we had moved from. The good news – you can get a lot of house on a lot of acreage if you want for comparatively little. People are very friendly; no Seatlle freeze there. Ann Arbor itself is a small college town with good restaurants. There is good theater and decent enough arts. It can snow there, the weather in general isn’t much to love, and it is very flat. Nearby skiing not an option. Mountain hiking not an option. And you don’t have to go too far to experience the after effects of industrial decay and neglect. Flint was a depressing horror show at the time, and parts of Detroit not so nice. But you can bet on revitalization, I suppose. Cleveland is where it is at according to the TV. I have spent considerable time in Birmingham, AL, and really liked it. But oh, the humidity. And they get a fair share of twisters, too.

  15. 15
    Mike says:

    Tangentially related to the debate over any changes in mortgage rates in the medium-longer term is the effect that the current low-yield environment is having on institutional investors such as pension funds and insurance companies. Yields on fixed-maturity holdings are generally around 4% at this point, and it is slowly killing these systemically important institutions which generally depend on a 6-7% return for long-term solvency, which traditionally could be achieved with an all AAA bond portfolio. Will the Fed keep rates low in perpetuity just to goose the housing market and protect the spread on bonds issued by Fannie and Freddie? Is there even a natural market for debt with a 30-year maturity at interest rates lower than those currently offered/who would want to service these loans?

  16. 16
    ess says:

    One can never forecast what the future will hold with interest rates. If people could – some bond fund kings would be making out like bandits. But the alternative happened – bond fund kings guessed that interest rates were going up, but interest rates went down, and they lost their (client’s) shirts. And those guys immerse themselves in interest rates all day every day, and they got it wrong. Thus a casual observer who guesses is just doing that, and they have a 50% chance of being correct. But happily for the time being – housing and car loans are really inexpensive, and that is great news for those who can access them!

    I remember a friend asked me what I thought would happen to the stock market over the next year or so. I informed him that “I can say without hesitation and absolute certainty that the stock market will do one of three things – go up, go lower or remain at the same level. I would suggest that is the way it is with interest rates, especially when looking out a number of years.

  17. 17
  18. 18
    Mike says:

    By Doug @ 1:

    The title of this post could equally be, “Low Home Prices Continue To Prop Up Affordability”.

    Of the 2 variables that drive a monthly payment in the context of affordability, why do we automatically assume that rates are the mispriced one and not the asset price itself? Maybe rates are correct and the median SFH price should actually be $700k?

    However absurd this sounds, my point is just that low rates are here to stay. The days of 8% mortgages are gone and never coming back. The Fed has finally admitted as much per Yellen herself last week when she said that the natural rate will just be lower than the one in past decades; further emphasized in the committee’s collapsing dot plot forecasts.

    We’ll see a 0% mortgage before we see an 8% mortgage.

    Perhaps we can introduce some programs to give the poorest, weakest borrowers 8% mortgages on the least desirable homes, so they too can live the American Dream.

  19. 19
    ess says:

    http://www.seattlepi.com/news/us/article/Decade-after-housing-peaked-Owners-richer-8311579.php

    An interesting article discussing the inability of many people to purchase a home. That in turn has caused rental shortages and rising rents. Which in turn is causing investors to buy more homes as rental investments. I would imagine that these factors discussed in the article are also present in the Puget Sound market.
    Does anyone know if the percent of renters is increasing in the Puget Sound area and by how much?

  20. 20
    Doug says:

    RE: Justme @ 13 – Interesting article, thanks for sharing.

    It did, however, seem to read more anecdotal than factual. I don’t doubt some people are doing this, but there are also some people who move across the country every year for various reasons.

    Housing is not so out of control here that I would pick up my family and randomly move to the middle of the country. I’d bet that those considering something like that are either originally from that area or have parents living in the area which is going to limit the total numbers also doing this sort of thing.

    A 50% pick up in sales in Detroit doesn’t really tell me anything. Last year’s sales could have been 2 and if that increased to 3 this year, that would be a 50% increase.

    On net, I’ll still bet coastal cities will see the greatest influx of people over the next couple of decades.

  21. 21
    Doug says:

    RE: GoHawks @ 11 – I thought so too. Interest rates could double from here and still not put us at the affordability lows of ’07 which also means housing could also double to get us to the same place. Scary.

  22. 22
    The Tim says:

    By Doug @ 21:

    Interest rates could double from here and still not put us at the affordability lows of ’07 which also means housing could also double to get us to the same place. Scary.

    Not quite. The relationship isn’t a simple linear one. If the median home price were at $850,000 with today’s rates and incomes the affordability index would be at about the same level (65) it hit at the low in 2007. That’s not double, but it is a big increase: 52 percent higher than today’s price.

    If home prices keep going up at the same rate they did between May of last year and May of this year (+16.4 percent), we’ll exceed that $850k price within three years.

  23. 23
    Doug says:

    RE: The Tim @ 22 – Ahhh great catch, thanks.

  24. 24
    Blake says:

    RE: Blurtman @ 14
    I lived in Madison, Wisconsin and Iowa City, Iowa for over two decades and really love both those college towns. Great culture and quality of life… I had 2/3rds of an acre and a 2,700 sq ft brick ranch and walked to work through town. It was tough to leave, but the hot and humid summers drove me a way – – and family here. I hated Seattle at first, but discovered Vashon Island and have 2+ acres and a nice water taxi to work.

    Quality of Life… Over the last generation or two the US has destroyed the social contract built up painstakingly from the 30s to the 70s… Cheap college, 40 hour weeks, pensions and benefits… “Old economy!”
    Brave new world eh? Supercapitalism… Obama will leave office as the first US President to not have one year in office where the economy grew at 3%+ AND roughly 90% of this small GDP growth went into the pockets of the 1%!!! That’s what’s wrong: If the workers don’t get raises they can’t buy stuff and can’t pay off debts – – even at 3% or 6%. it’s broken and I don’t see any fixes…

    The people who own this country want MORE! Profits have never been better… good times for them! They don’t see any reason to change anything…

    Luckily we live in a democracy and have an election coming up! ;-)

  25. 25
    Justme says:

    RE: Blurtman @ 14
    RE: Blake @ 24

    Thanks for posting about your experiences in the midwest–very interesting reading.

  26. 26
    Justme says:

    RE: ess @ 16

    >>One can never forecast what the future will hold with interest rates.

    For 30 years, since Alan Greenspan took over FRB in 1987, interest rates were entirely predictable: Interest rates will be set at the level that produces the largest asset (real estate, stocks, bonds) inflation possible realtive to wage inflation, and if there is a bubble bursting, FRB will reduce the interest rates even further because unemployment forces wages down. The only time interest rates will be increased is when there are signs of wage inflation (capitalists canlt have wage inflation!), and then only temporarily. To reduce the cost of living, cheap imports and trade deals will save the day. That is, for those that have a job. CPI definitions will be changed to exclude inflationary items like housing and energy (energy less significant recently)

    We are now essentially at 0%/ZIRP from 2009 to 2016. Poor people everywhere are starting to wake up to the fact of what the FRB is really doing: Making the rich richer and the poor poorer. Trump and Sanders are the current manifestations of this awakening. It will probably get even more crazy soon. Jobs participation rates are at or near all time lows. People still pay at least 11% on credit card debt even though the banks fund these land at 0%. Housing prices are out of reach for all but the top 10%, and if they sag we import criminal money from China to prop the prices up.

    But we have now reached the end of the line. Interest rates have nowhere to go but up. People will not accept NIRP while at the same time paying 11-25% interest on their credit card debt. Trump and Sanders are rising, a strong sign of great unrest among the electorate. The US electorate will not accept stagnation like Japan did. It is going to get very ugly, one way or the other.

  27. 27
    Green-Horn Investor says:

    RE: Doug @ 5

    Recency bias!

    Yes!

    We’re always fighting the last war.

    People are hoarding cash because they expect other assets to fall in value and swoop in with their liquidity when the blood is flowing. Also possible that cash could lose its value and only holders of assets survive while those who are most leveraged prosper the greatest.

  28. 28

    By Justme @ 26:

    RE: ess @ 16

    >>One can never forecast what the future will hold with interest rates.

    For 30 years, since Alan Greenspan took over FRB in 1987, interest rates were entirely predictable:

    People who invest in bonds would disagree with you on that.

    Rates are low because the economy is incredibly weak. No one could have predicted that in 1987.

  29. 29
    Mellon says:

    I’ve also lived in the midwestern towns/cities. Those place have a lot more soul and better quality of life, especially socially. You’d be pretty surprised what outdoor activities are reachable within a 3 hour drive, which is about my minimum these days for escaping the hordes and their dog poo bags here.

Leave a Reply

Use your email address to sign up with Gravatar for a custom avatar.
Your email address will not be published.

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>

Please read the rules before posting a comment.