Affordability Improved Amid Soaring Nominal House Prices, According to First American Real House Price Index

First American Financial Corporation (NYSE: FAF), a leading global provider of title insurance, settlement services and risk solutions for real estate transactions, today released the January 2021 First American Real House Price Index (RHPI). The RHPI measures the price changes of single-family properties throughout the U.S. adjusted for the impact of income and interest rate changes on consumer house-buying power over time at national, state and metropolitan area levels. Because the RHPI adjusts for house-buying power, it also serves as a measure of housing affordability.

Chief Economist Analysis: Soaring Nominal House Prices Don’t Tell Affordability Story

“Soaring nominal house prices dominate recent headlines and for good reason. It is true that nominal house prices are the highest they have ever been, over 22 percent higher than the housing boom peak in 2006, according to the First American Data & Analytics House Price Index,” said Mark Fleming, chief economist at First American. “The acceleration in the pace of annual house price growth began in the summer months of 2020, as potential home buyers emerged from lockdowns armed with record low mortgage rates and were met by historically low housing supply – a perfect storm for rapid nominal house price appreciation.

“By conventional measures of affordability, especially in an environment of modestly rising (in some markets declining) household income, a surge in nominal house prices implies significantly reduced affordability,” said Fleming. “Yet, nominal house price fluctuations alone, or even the relationship between nominal house price growth and income growth, can be a misleading indicator of affordability, and overlooks what matters more to potential buyers – house-buying power -- how much home one can buy based on changes in income and interest rates.

“For example, let’s assume you earn $100,000 a year, have a 33 percent debt-to-income ratio, and put down 5 percent on a home. With a 4 percent mortgage rate, your house-buying power is $606,000. But, if rates fell to 3 percent, your house-buying power increases by $80,000. Our Real House Price Index (RHPI) adjusts nominal house prices for purchasing power by considering how income levels and interest rates influence the amount one can borrow,” said Fleming. “The ability of low or declining interest rates to boost house-buying power makes it possible for a housing market to have high or even rising nominal house prices yet remain highly affordable (as measured by the RHPI) and vice versa. Indeed, a walk down house price memory lane shows us that nominal house prices alone are not always a good measure of affordability.”

The 90s Recovery: Low House Prices, Low affordability

“In the chart, nationwide nominal house prices, real house prices, and house-buying power are all indexed to January 1990. From October 1993 through December 1994, a period when the U.S. economy was recovering from the early 1990s recession, housing was considered relatively unaffordable, even though nominal house prices were barely rising (1.0 percent),” said Fleming. “Despite relatively flat nominal house prices, the RHPI increased over 20 percent during this time period because house-buying power fell by 16 percent due to rising mortgage rates. Even though nominal house price growth was low, that was not enough to call the market ‘affordable’ since it was accompanied by declining house-buying power and declining affordability.”

The Housing Boom Era: High House Prices, Low Affordability

“Nominal house prices surged in 2005 and peaked in 2006. From January 2005 through March 2006, nominal house prices jumped nearly 13 percent, while mortgage rates remained relatively steady. During this time, the RHPI also increased dramatically by nearly 15 percent, indicating significantly reduced affordability,” said Fleming. “The reason? Nominal house price appreciation far outpaced house-buying power. During the housing boom era, rising nominal house prices did signal falling affordability, but only because house-buying power did not keep up.”

The Pandemic Era: High House Prices, High Affordability

“In the most recent RHPI report reflecting January 2021 data, nominal house prices increased over 13 percent on a year-over-year basis, but house-buying power has grown even faster, increasing by an amazing 19 percent year over year. The result? Despite rapidly rising nominal house prices, affordability actually improved, with the RHPI falling nearly 5 percent during the same time period,” said Fleming. “In fact, while nominal house prices are now more than 22 percent above the housing boom peak in 2006, real, house-buying power-adjusted, prices are 48 percent below their 2006 housing boom peak. The lesson? In housing, you can’t judge a housing market ‘book’ by its nominal house price ‘cover.’ Affordability is dependent on house-buying power.”

Will Rising Mortgage Rates Signal the End of an Affordable Era?

“Recently, mortgages rates have increased modestly. Does this spell the end of an affordable era? Not quite. As rates rise, affordability may become an issue for some buyers on the margin. As these buyers pull back from the market and sellers adjust their expectations, house price appreciation will adjust,” said Fleming. “But, the improving economic conditions and the ongoing shortage of supply relative to demand continue to support house price growth. The underlying fundamental housing market conditions support a moderation of house price appreciation which, alongside a healthier labor market and still historically low mortgage rates, should keep housing affordable.”

January 2021 Real House Price Index Highlights

• Real house prices increased 1.2 percent between December 2020 and January 2021.
• Real house prices declined 4.8 percent between January 2020 and January 2021.
• Consumer house-buying power, how much one can buy based on changes in income and interest rates, increased 0.4 percent between December 2020 and January 2021, and increased 18.9 percent year over year.
• Median household income has increased 6.2 percent since January 2020 and 74.8 percent since January 2000.
• Real house prices are 25.6 percent less expensive than in January 2000.
• While unadjusted house prices are now 22.2 percent above the housing boom peak in 2006, real, house-buying power-adjusted house prices remain 47.8 percent below their 2006 housing boom peak.

January 2021 Real House Price State Highlights

• The five states with the greatest year-over-year increase in the RHPI are: Wyoming (+3.4 percent), Arizona (+1.5 percent), Oklahoma (+1.1 percent), Ohio (+0.8 percent), and Alaska (+0.1 percent).
• The five states with the greatest year-over-year decrease in the RHPI are: Louisiana (-8.7 percent), California (-8.4 percent), Illinois (-7.6 percent), Massachusetts (-7.4 percent), and New York (-7.3 percent).

January 2021 Real House Price Local Market Highlights

• Among the Core Based Statistical Areas (CBSAs) tracked by First American, the five markets with the greatest year-over-year increase in the RHPI are: Kansas City, Mo. (+5.3 percent), Memphis, Tenn. (+4.3 percent), Tampa, Fla. (+3.7 percent), Cleveland (+3.5 percent), and Hartford, Conn. (+3.0 percent).
• Among the Core Based Statistical Areas (CBSAs) tracked by First American, the five markets with the greatest year-over-year decrease in the RHPI are: San Francisco (-16.8 percent), San Jose, Calif. (-13.6 percent), Miami (-11.4 percent), Boston (-11.4 percent), and Dallas (-9.1 percent).

Next Release

The next release of the First American Real House Price Index will take place the week of April 26, 2021 for February 2021 data.

Sources

• First American Data & Analytics
• Freddie Mac
• Census Bureau

Methodology

The methodology statement for the First American Real House Price Index is available at http://www.firstam.com/economics/real-house-price-index.

Disclaimer

Opinions, estimates, forecasts and other views contained in this page are those of First American’s Chief Economist, do not necessarily represent the views of First American or its management, should not be construed as indicating First American’s business prospects or expected results, and are subject to change without notice. Although the First American Economics team attempts to provide reliable, useful information, it does not guarantee that the information is accurate, current or suitable for any particular purpose. © 2021 by First American. Information from this page may be used with proper attribution.

About First American

First American Financial Corporation (NYSE: FAF) is a leading provider of title insurance, settlement services and risk solutions for real estate transactions that traces its heritage back to 1889. First American also provides title plant management services; title and other real property records and images; valuation products and services; home warranty products; banking, trust and wealth management services; and other related products and services. With total revenue of $7.1 billion in 2020, the company offers its products and services directly and through its agents throughout the United States and abroad. In 2020, First American was named to the Fortune 100 Best Companies to Work For^® list for the fifth consecutive year. More information about the company can be found at www.firstam.com.

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