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US home prices are expected to climb as the Federal Reserve begins cutting interest rates while the underlying economy is still firm, according to Goldman Sachs Research.
Our analysts increased their forecast for US home price appreciation to 4.5% this year and 4.4% in 2025, up from previous estimates of 4.2% and 3.2% respectively in April.
We spoke with Goldman Sachs Research analyst Vinay Viswanathan about the revised outlook and why homes might become more affordable even as prices continue to climb.
Your team recently upped its forecast for US home prices, noting that “bad news is likely good news” for home prices. What did you mean by that?
It’s a reflection of the fact that labor markets appear to be loosening, which gives the Fed more room to cut. Our economists now forecast the Fed will deliver three consecutive 25 basis point rate cuts at the remaining meetings this year.
Now, if we thought the ability of homebuyers to purchase houses would diminish because of a worsening economy, in which people lose jobs and income and are therefore unable to afford a mortgage, rising prices would be bad news.
But we’re not seeing higher permanent layoffs — at least not yet. The reason we think right now that bad news is good news is that rates are falling because of concerns around employment, and we don’t think those concerns will really affect the housing market without income loss. All you’re really seeing is that the cost of buying, of taking on a mortgage, is coming down. To that end, we’ve already seen substantial improvement in funding costs. Just to frame this, the peak in the cycle saw mortgage rates of about 7.8% in Oct. 2023. Mortgage rates have since fallen all the way back down below 6.5%. We believe we’re well past the peak in mortgage rates, and we think it’s going to be a slow but steady grind lower over the coming years.
How does your anticipated home price appreciation compare to recent history?
The growth in home prices has been really resilient. At the start of the pandemic, there was a lot of concern that home prices might actually decline, because of the loss of income. The opposite happened. There ended up being a massive surge in household formation, which created an organic need for housing. On top of that, it was also a time when there wasn’t a ton of supply, both in terms of existing inventory and new builds. Those factors in the supply and demand sides led to the strongest home price growth we’ve seen in the country’s history: around 20% on an annualized basis.
Over the last year, home prices have grown by about 5.5 %, which is a little above the historical trend of about 5%. Clearly, there’s still not enough supply. But it also goes back to the household formation story. Peak homeowner age is between 30 and 39, when people start having children. And we have a lot of people in America in that cohort who need housing just based on where they are in their lives.
But isn’t the unaffordability of housing impacting their buying decisions?
It’s true that, by almost any estimate, affordability is the worst right now than it’s been for as long as we have data on record — so since the early 1980s. A lot of folks were thinking we would have home price declines again because of this. We had maybe a couple of months of home price declines, but then very quickly they reversed back up.
I do think we’re bucking some of the historical norms that have governed the housing sector. A lot of that just comes down to what’s happening under the hood. First, consumer balance sheets remain in really good shape overall, despite the fact that there’s weakness in the bottom income quintile, where we are seeing cracks. And second, unemployment has been attributed mostly to temporary layoffs or new entrants into the economy. Permanent layoff rates are still quite low.
If home prices keep rising, though, how does that impact the affordability problem?
There are two ways to get out of this affordability trap that we’re in. One way would be if home prices fall in one fell swoop, and you immediately see, say, a 20% drop in home prices over the course of a year, which brings affordability back to normal.
The other way, which we think is going to happen this time around, is you have a slow grind in affordability back down to normal levels. We think three factors will drive that. First, we’ll have a gradual lowering of interest rates. Mortgage rates have already fallen in anticipation of the Fed rate cuts, so they’ll probably remain unchanged from current levels through the rest of the year. But we think they’ll fall by another 40 basis points next year. Second, we think income growth will remain positive — we’re forecasting real disposable income growth of 2.4% this year and 2.1% next year, which are both pretty healthy levels relative to history. And lastly, we think home price growth will be positive but below trend — just enough that we will see affordability stabilize.
Based on these views, we think we will get back near a healthy level of affordability by the end of the decade, so it will be a five-year odyssey of slow normalization.
Why haven’t we seen mortgage applications respond yet to the decline in borrowing rates?
It’s a good question, and one that we’ve been a little puzzled by. The main factor, in my opinion, is that the timing of the drop-in rates was not ideal. You typically see a seasonal spike in mortgage applications at the end of spring, around April or May. But mortgage rates really didn’t start to drop until June. If that had happened earlier, I think you would have seen a bigger effect. Right now, we’re entering the seasonal slowdown in the market when kids are going back to school and families generally don’t want to move. So I think it’s really just residual seasonality that’s the big driver here.
What are some of the big differences you’re seeing among US regions?
Year to date, we’ve seen the strongest home price growth in three main areas. First is the Midwest, which by most estimates is the cheapest and most affordable part of the country. Cities like Cleveland and Chicago have done really well. Second is the Northeast. New York and Boston have had a really strong year. The third is California, especially San Diego. People assumed California would be the worst-performing state because the baseline level of affordability was so low. But California also has pretty onerous land-use regulations that limit supply, and there’s been a lot less financial distress than people were expecting, with one of the lowest loan-to-value ratios on outstanding mortgages in the country.
We have a model-driven forecast for home price appreciation in the top 381 metros in the country, and we have two very out-of-consensus views as a result. First, we think California home price appreciation will do very well over the next two years. Certain metros like San Jose could see up to 10% appreciation over the next 12 months.
On the other hand, we are pessimistic about the Southeast, and Florida in particular. You’ve seen lower income growth on a real basis in Florida versus the rest of the country, and it has also experienced a massive shock in affordability. Florida actually entered the pandemic being relatively affordable, and now it’s one of the least affordable parts of the country. Not only that, insurance costs have ballooned in Florida, which has to be factored into the outlook.
