What We Expect in Housing and the Economy in 2019
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The housing headlines are getting increasingly dramatic. Predictions for 2019 have a pessimistic slant to them. We think that while housing will slow down next year, it is not a cause for significant concern. The medium- and long-term prospects for housing are good because demographics are going to continue to support demand. With a slower price appreciation, incomes have a chance to catch up. With slower sales, inventory has an opportunity to normalize. A slowdown in 2019 creates a healthier housing market going forward.
After the tax cut induced strength in 2018, with growth the fastest since the financial crisis, the economy will slow in 2019. Adding to the challenges the loss of stimulus will bring, political concerns will continue to be a source of uncertainty and volatility, which could cause a loss of confidence that suppresses both business and consumer spending. Nonetheless, we do not anticipate a recession in 2019, as a strong labor market will form the basis for growth.
GDP: 2.5% in 2019 from 3% in 2018
Unemployment rate: Fall to 3.4% by year-end 2019 from 3.7% at the end of 2018
Wage growth: Average hourly earning to increase 3.5% by year-end 2019
Fed funds rate: Two to three rate hikes
Mortgage rates: Could increase to as high as 5.5%
Home sales: Should contract marginally by 2% to 5% year over year.
Home prices: Growth will moderate to about 3% year over year. There will be some localized declines, but we don’t expect a national decline.
Mortgage interest rate changes will continue to dominate the housing market in 2019. The 150 bps increase in rates since 2016 has lowered affordability, which has had the follow on effects on the housing market that we are experiencing.
- Prediction: The slowdown in both sales and prices are a direct result of the increasing cost of leverage for the marginal homebuyer. Over the past month, rates are down 50 bps, in part because of concerns about growth. This illustrates the uncertainty of the rate outlook. Our expectation is that rates are more likely to increase than decrease, as growth is above trend and wages are rising. Mortgage rates could rise to 5.50%.
- Risk: The risk to our outlook would actually be a positive for the housing market. Growth concerns, driven by political risk and slower global growth could hold rates below 5%. This would breathe new life into the housing market.
Housing sales cooled in late 2018 as housing demand slowed, driven in part by an increase in mortgage interest rates to the highest levels since the financial crisis.
- Prediction: Continued increases in rates will reduce demand, but a vibrant labor market (hopefully with more robust wage growth) and increasing share of sales to buyers entering their peak homebuying years (millennials) will support demand. Expect rates to prevail and sales to contract marginally by 2% to 5%.
- Risk: Higher rates could slow the housing market more than we anticipate as homebuyer confidence falls. However, it is unlikely a slowdown occurs comparable to the financial crisis.
Home price appreciation cooled in late 2018 as housing demand slowed, driven in part by an increase in mortgage interest rates to the highest levels since the financial crisis.
- Prediction: Prices are likely to slow regardless of what happens to interest rates and sales. The run-up in prices since 2012 totals 44%, compared with a 15% increase in median family income. Thus, home prices are approaching levels that may be unsustainable when compared with income. Home price growth will moderate to about 3% year over year.
- Risk: There may be some localized price declines, particularly in cities were affordability has become a challenge, but we don’t expect a national decline.
GDP growth in 2018 was about 3%, a cyclical high since the financial crisis. The key contributors to growth were government spending and private investment, as the tax cut and fiscal stimulus supported these sectors, while a strong labor market drove consumer spending. Net exports were a drag due to the effects of the trade war, and housing weakness also weighed on growth.
- Prediction: Leading economic indicators suggest economic growth will continue to be above trend. GDP growth will likely slow to about 2.5% from 3% in 2018. Strong consumer spending should continue to support growth, but the stimulative effects of the tax cut will fade.
- Risk: The high GDP growth of the past year may decline more than expected, as political shocks dampen confidence. If trade disputes are not resolved, a slowdown in global economic growth could dampen the U.S. economy as well.
The unemployment rate reached a 50-year low of 3.7% in 2018, and we expect it to continue its decline further in 2019. The number of open jobs exceeds the number of job hunters, suggesting strong demand for workers, which is leading to some acceleration in wages.
- Prediction: We expect unemployment rates and jobless claims to continue to drop throughout 2019 before beginning to rise again by 2020. Wage growth should reach 3.5% year over year.
- Risks: Abnormally low unemployment can cause a spike in inflation if wage growth approaches 4%. This could force the Fed to raise rates faster than currently anticipated, which could add to the financial market volatility we saw at the end of 2018.
Consumers’ financial condition is strong. Household net worth as a percentage of disposable income has recovered and steadily increased since the financial crisis.
- Prediction: We expect consumer spending and disposable personal income to continue to rise through 2019. Consumer confidence is strong, having risen considerably since the Great Recession. A strong labor market will support wages, confidence and spending.
- Risk: Tariffs and other political factors may negatively impact consumer confidence.
Consumer debt reached almost $14 trillion in 2018. However, delinquency rates are low, reflective of the strength in the labor market and more stringent lending standards since the financial crisis.
- Prediction: We expect consumer debt to continue to rise in 2019. Although lenders may somewhat tighten underwriting standards, a strong labor market and wage growth will keep delinquencies low and encourage lending and borrowing.
- Risk: Higher interest rates will increase the cost of debt servicing, and consumers with a less robust financial profile could have challenges meeting their obligations. There may be some increases in delinquency rates, particularly for credit cards, auto and student loans, but we do not expect delinquency rates to rise to a level that threaten the broader economy.
Inflation has been close to the Fed’s 2% target since March 2018, driven in part by a stronger economy and emerging wage growth.
- Prediction: The rate should remain close to the Fed’s target of 2% Y/Y. Lower energy prices and a stronger dollar have offset inflationary pressures from the trade war and wages.
- Risks: The strength in the labor market could lead to an acceleration in wage growth while trade disputes could push up the price of goods, reducing the deflationary impact that imports typically have. Thus, inflation could come in above expectations, placing upward pressure on interest rates across the board.
The Fed has raised its benchmark rate nine times since 2015 and is simultaneously reducing its balance sheet as it moves monetary policy away from being accommodative. The Fed policy has been consistent with the state of the economy.
- Prediction: The FOMC will likely raise the fed funds rate twice in 2019 as it anticipates inflation and works to keep the economy from overheating.
- Risk: The Fed debate has become quite contentious as volatility in the markets leads some observers, including the president, to question the Fed’s rate-hike path. We believe there is some risk of more rate hikes in 2019, particularly given the current trajectory of wage growth in the context of a robust labor market.