[ToolAcademy]

Question to realtors:

How quickly do home prices react to changes to interest rates? It seems pretty clear that to most home purchasers, the actual price is of less significance than the monthly payment. That's why variable rates, teasers, option-ARM's, etc became so popular, because they lowered the monthly payment (if only temporarily).

We are at historical lows on mortgage rates. Below 5% is not difficult for good credit, traditional 30-year fixed. My concern about purchasing a home today is that the price is destined to drop -- not because of "the economy," or unemployment, or an increase in foreclosures -- but only because in a few years, rates will be closer to historical average -- 7-8%, maybe more.

To express this mathematically, a $250,000 house today, with 20% down and a 5% mortgage is a monthly payment of $1074. If rates increase to 7%, a payment of $1074 would only enable a purchaser to buy a house for $201,720 -- that's a 19.3% drop. A dramatic rise in rates isn't really necessary to prove the point -- at a 5.5% rate, $1074 only buys a $236,000 house, at 6% only $224,000. And the percentage changes are equivalent whether you're talking about a $100k, $250k, or $5 million house.

Even being a responsible buyer, waiting out the recession, with a solid down payment, and traditional mortgage, it seems that any house purchase today is guaranteed to lose value in the next few years just due to interest rates eventually "reverting to the mean." I'm ignoring the economic factors, because that's a completely other argument, but if the economy did improve, rate increases would be more likely.

Comments? Can rates increase without home prices dropping proportionately? How long is the lag? Anyone disagree that monthly payment, not home price, is the true driver of buyer demand? Is waiting it out (i.e. renting) the way to go for now?

[WestieJeff]

I've wondering about this too and I don't really know what the answer is.

All signs point to increasing interest rates at some point in time, but at the same time I am sure the fed would like and will work to keep interest rates low until housing is back on its feet.

I don't think you'd see equal drops across all price points since at some dollar value people will have cash and interest rates aren't an issue. Look at all the cash buying activity already going on.

It is a good question none the less.

[JohnG72]

The correlation is not necessarily as strong as you might think.

Especially in Vegas where the percentage of all cash buyers is very high. The crumbling of Las Vegas real estate as an investment would do far more damage to Vegas real estate prices than would an increase in interest rates.

The bigger issue for any individual is how much they will be able to further save by delaying their home purchase. Having 40-50% as a downpayment instead of 20% goes a very long way towards mitigating the impact of a high interest rate. Combine a high downpayment with a drop in RE prices, and you're in the catbird seat.