Fannie Mae is Bearish on Housing and is Projecting a “Mild” Recession

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According to a recent report by Fannie Mae, there are concerns about the housing market. 

The U.S. housing market has experienced some ebbs and flows this year, but it’s undoubtedly been in correction mode. With elevated interest rates and tightening lending practices, Fannie Mae is forecasting a “modest” recession with a soft landing starting in the second half of 2023.

Low Number of New Home Sales Offset by New Construction 

Home sales slowed down during April and May, even though mortgage rates decreased slightly from their peak. Affordability concerns combined with a lack of inventory due to homeowners’ reluctance to sell off their low fixed-rate mortgages are helping buoy prices through the rest of the year. Fannie Mae forecasters said, “The ongoing lack of supply of homes for sale continues to drive demand for new home construction despite higher mortgage rates.”

Since Q4 of 2022, there has been an upward trend of new home sales, which spiked up to 9.6% in March of this year. Homebuilders have an optimistic outlook for the remainder of the year. 

In the report, the economists state, “While we still expect tightening bank lending standards to limit construction going forward, especially among smaller and custom builders who tend to utilize smaller bank credit, on balance, we have upwardly revised our new single-family starts forecast for the year.”

Homebuilders Started Strong But May Slowdown

The construction of multifamily homes has been astonishingly resilient recently, with 559,000 annualized units. Despite that, Fannie Mae expects a big slowdown in activity towards the end of the year. This is due to rent growth slowing down from a year ago while vacancy rates have increased. 

The ongoing tightening of bank lending is leading to more restrictive credit. “There is a record number of multifamily units currently under construction, which are scheduled to come online later this year and into 2024. Combined with tightening credit for construction lending, which we expect will soon be realized by a slower new project pipeline, we are expecting a significant slowdown in starts later this year,” stated Fannie Mae economists in their report. 

Mortgage Orginations and Refinancing Projections

Purchase mortgage originations are looking upward, projected at $1.65 trillion in 2023 and $2.03 trillion in 2024. However, this is being canceled out by the revised downward forecast of refinance originations, which is expected to be $291 billion in 2023 and $558 billion in 2024. 

According to the Fannie Mae Refinance Application-Level Index (RALI), refinancing application activity remains toned down. It’s anticipated to bounce back later this year as mortgage rates decrease marginally.

Signs of the Labor Market Slowing Down

Even with a strong labor market (253,000 jobs added in April), there are signs that it is slowing down. Based on Fannie Mae’s report, job openings have declined by 1.6 million within the last three months, with temporary jobs decreasing. Plus, ongoing unemployment claims are increasing. 

Although the report points out that, historically speaking, when economies contract, 

“There is significant eventual downward revision to initially reported employment gains via changes in the estimates regarding the number of firm “births” and “deaths.” 

The economists from Fannie Mae believe that inflation won’t be under control until the labor market starts to soften. The policy will continue to tighten until there are signs of a contraction in the job market.

A Mild Recession on the Horizon

Fannie Mae predicts that a recession isn’t a matter of “if” but “when .”With a possible hike in interest rates, tied with low inventory, stricter credit conditions, and a slowdown in the construction of multifamily units, we may witness a mild correction, but fortunately, not a housing market crash. The reason the recession would be “mild” is largely due to low inventory that, once again, is helping prop up prices.

Homeowners are feeling a “lock-in effect” as they are reluctant to sell their homes that currently have a low-interest mortgage attached. Ultimately, a slowing housing market could lead to a recession. Yet, the construction sector’s strength can also help drive us into recovery next year.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.