For the past two-plus years, home prices were unstoppable. Buyers watched in horror as they swiftly ratcheted ever higher from one month to the next—and bidding wars drove these price tags up even further.
But higher mortgage interest rates have since poured cold water on the red-hot housing market, forcing it into a correction as buyers reached their financial limits.
As it turns out, what goes up may have to come down—even if by just a little.
“House prices are rolling over,” says Mark Zandi, chief economist at Moody’s Analytics. “They’re going from straight north to going sideways and, I expect, would be going south in the not too distant future, certainly by this time next year.”
Just take a look at what’s happened this summer: Sale prices of existing homes fell by $10,000, to a median of $413,800 in July, compared with a month earlier, according to the National Association of Realtors®. (Existing homes do not include new construction.) However, prices were still up 10.8% year over year in July.
“We are going to see prices drop as we do seasonally,” says Realtor.com® Chief Economist Danielle Hale. (Home prices typically peak in June and then begin to dip.) “We tend to see smaller homes and sellers who are more willing to make a deal [in July]. In general, there are fewer buyers because they’re on vacation, getting ready for back to school, they’ve already found a home or decided to extend their rental.”
But, Hale adds, “I don’t think it’s likely for home prices to fall significantly. Prices are still growing [annually] by double digits. We have a long way to go before we see prices decline.”
However, the number of buyers is drying up rapidly. In July, existing-home sales dropped 20.2% year over year, according to NAR data. And new-home sales plummeted even further, plunging nearly 30% in July compared with a year earlier, according to federal government data.
“Demand has fallen off, and supply has increased. Economics 101 says prices have to decelerate, and that’s what we’re seeing today,” says Devyn Bachman, senior vice president of research at John Burns Real Estate Consulting. “It’s the polar opposite of what we’ve seen over the last few years.”
That doesn’t mean that all corners of the housing market will fare equally. Certain parts are already seeing price declines that could worsen as time goes on.
“Everyone’s vulnerable. It’s just to what degree,” says Zandi.
Nationally, he anticipates that home prices will go flat or fall as much as 5%, particularly if the nation avoids a recession.
Whether prices fall—and by how much—depends on mortgage interest rates. The higher rates go, the less money buyers have to put toward the asking price of a home. And if a recession hits and many would-be buyers lose their jobs, there will be fewer folks to bid up prices.
“There’s an expectation that prices fall immediately, but they don’t. Prices are sticky on the downside,” says national real estate appraiser Jonathan Miller. “Sellers who don’t get their price and don’t have to sell, wait.”
New construction may be vulnerable to falling prices
Some of the biggest price corrections could happen in new construction. New homes are typically more expensive than existing homes—and with soaring inflation, fears of a recession, and sky-high prices and higher mortgage rates, buyers have backed away.
Even though prices for new homes are still up year over year, the market correction is already happening. In July, about 42% of builders decreased their prices, mostly through incentives, compared with just 25% in June, according to a recent John Burns survey.
(Incentives are a way for builders to lure buyers without actually reducing their prices, and can include buying down buyers’ mortgage interest rates, contributing to closing costs, and throwing in nicer finishes and home amenities to sweeten deals, among other perks.)
Only 8% of builders raised prices in July.
Plus, many homes were built without buyers committed to them. If those houses don’t sell, builders will eventually be forced to cut prices.
“When you look at the direction pricing is going, it paints a really interesting picture,” says Bachman. “Pricing got over its skis, to put it lightly. Buyers are not going to purchase a home today with a price tag from four months ago.”
Which parts of the country could see the largest price drops?
States such as Texas—and especially in the capital city of Austin, which experienced a flurry of new construction and a big rise in prices—could see some of the largest corrections.
For example, median list prices in Austin soared 68% from March 2020 to May 2022, according to Realtor.com data. They’ve since come down about 4.5% from the May peak.
“The pricing has gotten so overblown,” says Bachman. “I’m very concerned about Austin. Every warning indicator out there is flashing that Austin is high-risk at this point.”
Many experts believe markets in California, the Pacific Northwest, and the Southwest could also be more at risk because they’re so expensive. This includes areas such as Boise, ID; Phoenix; Salt Lake City; Seattle; Denver; and much of Florida.
In fact, prices are already dropping in many of these markets. In Phoenix, where prices soared during the COVID-19 pandemic by roughly 36% (from March 2020 through May 2022), they dipped 4.5% from May to July, according to Realtor.com data. And in California, median list prices peaked at $759,500 in May and June, but have since fallen by about $10,500.
“These most juiced-up markets … could see 10% to 15% declines, and that’s assuming no recession,” says Moody Analytics’ Zandi. “If we get into a recession, then we’re talking 15%, 20%. I could even see some markets down 25% from their peak.”
“But you’ve got to put that in perspective,” he adds. “Some of these markets saw 30% price gains last year. … So they’re just giving up a year’s worth of price growth.”
Which price ranges are the most vulnerable to a correction?
Middle-tier homes could see price corrections. Here’s why: As mortgage rates continue to soar, second-time buyers who want more space but don’t have a big budget may be inclined to stay in their starter homes—and make renovations instead of buying a bigger house. As a result, those homes they would have bought around the median price range might linger longer on the market, ultimately forcing their prices to drop.
Starter homes on the lower end of the market are less likely to see price cuts. The competition is generally fiercest for lower-priced homes, especially as the cost of becoming a homeowner has surged.
However, with fewer buyers able to qualify for mortgages and fewer investors bidding up prices, this cheaper market may not be immune to a correction. Many investors are waiting to see if prices drop even further before pulling the trigger on new purchases.
Exurbs, vacation destinations could see price drops, too
The farthest-out suburbs, often referred to as the exurbs, could also be more vulnerable. Buyers might see distance from city hubs as a negative. This is also where builders have been putting up more homes because land is still available.
As more homes become available closer to cities, buyers may forgo these outer-ring suburbs, suggests Bachman. (Or maybe not. With more people working from home at least part of the week, those exurbs might still be enticing.)
Vacation areas could also see prices shrinking if demand dwindles. Those who need mortgages to buy a vacation home will be hit with higher rates, and wealthier buyers who typically pay in all cash have likely lost money in the crypto and stock markets.
“The types of individuals who are buying vacation and second homes are getting the money from other investments that have also gone down significantly in value,” says Mark Fleming, chief economist at First American Financial, a title insurance and supplement service provider based in Santa Ana, CA.
Are new homeowners about to find themselves underwater on their mortgages?
Amid all this talk of price drops, it’s important to remember that they might not decline everywhere.
“Historically, prices rarely decline on a national basis,” says Fleming. “The exception was the global financial crisis. Prices were speculatively high, and then you got the foreclosures that helped pull prices lower.”
This time around, there are more folks in need of homes than there are residences available, bad mortgages have largely been banished, and there isn’t another wave of foreclosures looming.
If home prices do correct, most homeowners don’t need to worry about suddenly finding themselves underwater on their mortgages, where they owe more than their properties are worth.
“The good news is home prices are so elevated that homeowners who have owned for a while are sitting on record levels of equity,” says Hale. “This gives homeowners a financial cushion. Even if home prices decline, they’ll still likely have equity in their homes.”
Even recent buyers who bought at the very top of the market shouldn’t worry too much, provided they plan to stay put for a few years.
“If you hold on to your home for a long period, the home will always appreciate,” says Bachman of John Burns. “But there are going to be short-term pricing blips that will decrease the home’s value if you don’t hold it for the long term.”
