Investment—Housing Affordability

The biggest asset class in the world is not bonds or equities. It's real estate which is also a significant driver of labor and materials demand.

House prices around the world have grown faster than incomes in a number of countries.  However, be warned that housing prices are a lagging indicator:^[3]

Government inflation data uses historical prices to track housing, not current prices. So it takes time to see changes.

In this article, we will cover two ratios (2015 = 100; latest available quarterly data on 09/18/2022):^[1]

• Price to income ratio
• Price to rent ratio

which both can be considered as a measure of affordability.

Residential Construction Spending

Residential construction spending, which is about an $800 billion category, is comprised of three components:^[4]

• Single family construction
• is impacted by the 30-year fixed mortgage rate
• Multifamily construction
• is only 14% of the total
• is not impacted by the mortgage rates because big corporations typically don't borrow at 30-year fixed to do one of these projects.
• big corporations borrow closer to the front end of the curve, and there's a much longer lag time between when those projects are approved and when the construction spending actually happens.
• Remodeling
• is people putting in a new bathroom or a new kitchen into their existing home
• is not impacted by the 30-year fixed mortgage rate and is really more of a consumer sentiment story, how people feel.

Therefore, only single family construction is most impacted by housing affordability and the most important component to be monitored for housing cycle.

Housing Affordability Index (HAI) in a metropolitan area measures whether or not a typical family earns enough income to qualify for a 30-year fixed mortgage loan on a typical single-family home without spending more than 25% of the income on payment for principal and interest.

House Price-to-Income Ratio

The price to income ratio is the nominal house price index divided by the nominal disposable income per head.

Figure 1.  House price-to-income ratio (Source: [1])

House Price-to-Rent Ratio

The price to rent ratio is the nominal house price index divided by the housing rent price index .

Figure 2.  House price-to-rent ratio (Source: [1])

References

1. Housing Prices (OECD Data)
2. A Warning Knell From The Housing Market - Inciting A Riot?
3. Our Inflation Nightmare Will Flatline in 6 Months (09/19/2022)
4. The Macro Update (Q1 2023) With Eric Basmajian (EPB Macro Research)
5. The Real Reason Home Prices Are Falling (EPB Macro Research)
• We want to focus on the new construction market because this is what sets the tone of the rest of the housing market. The builders and speculators always get squeezed first and set the price on the margin.