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Below is Views on FOMC By Ms. Madhavi Arora, Lead Economist Emkay Global Financial Services

* High rates dominating US housing market

  Home prices are declining, but housing affordability has worsened as the surge in mortgage prices puts homeownership increasingly out of reach.

Fears of a housing bubble bursting and comparisons to the GFC are not warranted, however, and the current dynamics suggest that the US housing market has returned to a more normal cyclical pattern in response to the surge in mortgage rates as of now. However, the cool off in housing has further leg.

?  Average 30-yr Mortgage rates in US have more than doubled—from below 3% in early 2021 to over 7.5%—for the first time this cycle (albeit down to sub 7% now).

The reflection of a jump in mortgage rates is visible in latest Existing Home Sales and Housing Starts and Permits reports. Home builders and home purchasers Sentiment Index looks to be easing as well (Ex 1).

Existing Home Prices had soared 45% from Dec’19 to Jun’22 (the start of the pandemic to the summer peak in pricing), the biggest jump ever recorded in such a short window of time!

However, we note even after mortgage rates more than doubled in less than a year, housing has returned to a more normal cyclical pattern rather than collapsed (Ex 3).

So far, employment has held up, but softer levels will be an additional pressure on home prices. That said, the house price correction may continue through next year as labor market cools off and rates remain high.

* Are rents finally cooling?

?  We believe that shelter inflation strength will lag and linger. Rent inflation in CPI is still running high at roughly 7%, but Zillow data on asking rents for new leases shows softening from a peak of 17% earlier this year to 9% YoY as of Oct’22 (Ex 4).

Shelter is far and away the largest component of the CPI (constituting 33% of headline and 42% of core) and a key component lifting CPI inflation.

Monthly changes in the Zillow data have averaged 0.8% so far this year, basically half the rate of increase reported across 2H’21, but printed 0.3% for Oct -- the softest monthly print since early 2021.

?  The Zillow data typically leads the CPI on shelter prices. The CPI data on rental costs covers the estimated rent prices across a broad stock of housing units and therefore lags the industry data on rental costs associated solely with new leases.

So some relative cooling is due ahead in the CPI data.

?  Unsurprisingly, shelter inflation firmed in recent months (Ex. 5) while the trend for non-shelter core components has moderated.

Besides, there has been some modest improvement in rental supply lately from a very low level of supply, and house prices also have turned lower in recent months, both of which could be negative factors for rental prices ahead (Ex 2).

However, it could still be a long-drawn journey where shelter inflation may remain strong (0.6-0.7%m/m) in the CPI for the next several months, but should see it come off to near-half of it by end-CY23 and contribute to the policy-led massive disinflation by late CY23

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