For years, a large number of home owners were prevented from moving up because of negative equity. These “underwater” homeowners were locked in to their current home by rock-bottom real estate values. Now that the market has improved, some see a new problem: Homeowners who have refinanced in recent years don’t want to give up their rock-bottom interest rates. Economists, who always seem to find something to worry about, are worrying that this group will be reluctant to move now that interest rates are heading back up.
Researchers at the Institute of Housing Studies at DePaul University in Chicago say that interest rate lock-in may be more of an impediment to housing turnover than equity lock-in (those who can’t sell because they’re underwater). Their study, published in February, used the Chicago metro area as a test case to predict what rising home prices and interest rates will mean for housing turnover. The study assumed a 1% interest rate increase each year over a three-year period. They found that the number of households freed from equity lock-in by increasing home prices will not offset the number of home owners who are increasingly being locked in by low interest rates. At the end of the three-year period, the turnover rate in strong markets had decreased by 75%. The effect in weaker markets was slightly less extreme, but similar.
National Association of REALTORS® Chief Economist Lawrence Yun predicts that interest rates will follow that pattern over the next three years, increasing from current levels (around 4.2%) to nearly 5% by early next year. He says they will probably rise until they reach 6%, then stabilize there. Historically, 6% interest isn’t deadly, but a home owner paying about half that may take rates into account when deciding whether or not to move.
It’s hard to know exactly how this will unfold on the national arena. One CoreLogic executive recently estimated that up to 3.6 million home owners will be reluctant to sell this year because of rate lock-in. That will keep inventories low and home prices higher than they otherwise would be.
Looking back to other lock-in events can provide insight to what home owners might do in the face of interest rate lock-in. Historically, there has been “a substantial amount of renovation of houses” as home owners seek to put off moving. Among other options is keeping the home as a rental property – that’s a great option in Flagstaff where the rental prices are high.
Ultimately, selling a home and moving to a smaller or larger one, or one in a different city, is most dependent on the homeowners’ housing needs. Interest rates will play a role, but in most cases not a determining one.