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Mortgage Rates Soar: Recession Risks Ahead

  • Mortgage News Daily reported that the average 30-year mortgage topped 5% late last week (almost double the rates on offer back in late-2020).

  • Debt servicing costs have skyrocketed over the last year, which will pressure economic growth in the coming quarters, according to historical trends.

  • As we have extensively documented, growth tailwinds are turning to headwinds.

US mortgage rates topped 5% on the average conventional 30-year fixed rate loan on Friday. The climb above that key psychological figure comes as interest rates continue to shoot higher. While the US 2-year Treasury rate was largely sideways during the back half of last week, longer maturity Treasuries went much higher. Typically, a 30-year mortgage rate averages around 1.8% above the 10-year, but that spread has widened in recent weeks—much to the chagrin of prospective home buyers.

What a Difference a Year Makes

Just how swift and massive has the latest run-up in rates been? According to the St. Louis Federal Reserve, the 52-week change in the Freddie Mac market survey of home loans is the biggest since 1980. The typical 30-year FRM has climbed from 3.1% in April 2021 to 4.7% (weekly survey data) today. The daily 30-year FRM, as reported by Mortgage News Daily, is 5.06% as of Friday afternoon.

Swelling Rates Now, a Contracting Economy Later?

Our featured chart lays out what this could mean for the broader economy. When mortgage servicing costs rise this rapidly, it often portends a dramatic slowdown in activity. The ISM Manufacturing PMI, a key gauge of economic strength, historically tracks closely with how mortgage costs change (inverted).

Featured Chart: Mortgage servicing costs are up 94% from the 2020 low

mortgage rate rise headwinds to growth chart

Inflation In Focus

The sharp rise over the last 12 months should squeeze consumers if history is any guide. We will get another whopper of a CPI report on Tuesday morning. The market expects a red hot 8.4% headline CPI print as the month-over-month increase in consumer prices is seen as having climbed by a staggering 1.2%. Hence the Fed is aggressively pivoting now (better late than never?) into rate hiking mode. It's unclear how far through their policy tightening plans they will get before the economy breaks, but the chart above proffers a sense of the difficult game they are playing.

Debt Servicing Costs Up, Retail Sales Pressured?

Retail sales also hits this week. Thursday morning’s data release comes ahead of a long holiday weekend, so it might move markets more than usual. Bank of America card data suggests consumers are still spending, but at a negative real rate over the last year. The recent surge in mortgage servicing costs will likely do no favors for better spending hopes as the year progresses.

Inflation Trends Expand

Our Market Cycle Guidebook, sent promptly to clients at the turn of each month, outlines many other key economic data points to monitor. The second quarter could feature peak inflation, but that is no guarantee. Wage pressures and record-high food prices, as reported by the UN on Friday, are tough knots to untangle.

Bottom Line: Real estate remains on fire, but the market could be doused by a tremendous increase in mortgage rates. Suddenly the first half of 2021 looks like it was a great time to lever up with a 30-year loan to buy a home. The ripple effects from higher borrowing rates on the broader economy should be bearish, according to historical relationships. The ISM Manufacturing PMI is inversely correlated to how mortgage servicing costs trend.

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