There is a misconception that there are too many homes for sale.

• Inventory of both new and existing homes is finally rising.
• But the supply of newly built homes appears to be way too high.
• Despite an increase in supply, home prices remain unaffected and continue to rise.

Today, anyone searching for a home knows that there are very few options available.

The housing market is showing signs of recovery after several challenging years, with both new and existing homes inventory increasing. However, a strange anomaly has emerged in the data: the number of newly constructed homes seems to be excessively high.

The housing market is experiencing unprecedented dynamics, which can be traced back to the subprime mortgage boom two decades ago.

The reason why home prices continue to rise despite high supply is because of the following factors:

The supply scenario

The NAHB reports that there is currently a 4.4-month supply of both new and existing homes for sale, indicating a balanced market between buyers and sellers.

At the beginning of this decade, the supply of homes was already low. However, the pandemic caused it to reach a record low of just two months' supply by the start of 2021. The shortage of homes for sale, coupled with strong demand, led to an increase of more than 40% in home prices from pre-pandemic levels.

The supply of newly built homes for sale has surged to a nine-month high, while the existing home market has seen little growth. In fact, the new home market now accounts for nearly three times the supply of existing homes. Historically, the supply of new and old homes has been closely correlated, but new construction now makes up 30% of the total inventory, twice its typical share, according to the NAHB.

"According to Robert Dietz, chief economist for the NAHB, the largest ever lead of new home months' supply (9.9) over existing single-family home months' supply (2.9) was recorded in June 2022. This separation highlights the importance of evaluating current market inventory by examining both the existing and new home inventory together."

The current unusual dynamic in the housing market is a result of both recent fluctuations in mortgage rates and an unprecedented disaster that occurred 20 years ago.

The foundation of today's tricky numbers

Unlike any other housing market, this one was driven by unique economic forces in 2005, including a surge in subprime mortgage lending and the trading of new financial products backed by these mortgages, which led to a massive runup in home sales, homebuilding, and home prices.

The housing market experienced a rapid decline, leading to a severe foreclosure crisis and ultimately causing the Great Recession. Single-family housing starts plummeted from a peak of 1.7 million units in 2005 to just 430,000 in 2011. By 2012, new homes accounted for only 6% of the total for-sale supply, and even by 2020, housing starts had not fully recovered to their historical average of about 1.1 million units, with a total of 990,000 units.

During the Covid-19 pandemic, consumer demand increased and mortgage rates reached new lows, prompting builders to respond. As a result, housing starts soared to 1.1 million in 2021. The Federal Reserve's economic bailout made homebuying more affordable, while the new work-from-home culture caused Americans to move in unprecedented numbers. This created a whirlwind of demand that sucked up supply.

Mortgage rate mayhem

The current divide in supply between new and existing homes is due to fluctuating mortgage rates. Mortgage rates dropped to historic lows at the start of the pandemic, but then spiked to 20-year highs just two years later. Millions of borrowers refinanced at the lows, and now they are hesitant to move because they would have to trade a lower rate on their loans for the current rate, which is around 7%. This lock-in effect has caused new listings to decrease.

Homebuilders have been able to maintain a high level of production, with single-family homes surging to more than 1.1 million in 2021, before dropping back again when mortgage rates shot up. However, builders have been able to buy down mortgage rates to keep sales higher, and as of this May, they are building at an annualized pace of 992,000.

Redfin reported that mortgage rates decreased slightly in spring, resulting in a 16.5% increase in active listings by June compared to the previous year. However, some of this increase was due to listings remaining on the market for longer periods.

Since March, the percentage of homes that have been on the market for at least one month has been steadily increasing, as new listings have been growing at a faster rate, but buyer demand has remained sluggish, as it has been since mortgage rates began to rise in 2022, according to a Redfin report.

Growth at the low end

The National Association of Realtors reports that the $100,000 to $500,000 price tier has the lowest supply on the resale market. This is where the majority of today's buyers are looking, as higher mortgage rates drive them towards more affordable homes.

Despite an increase in supply across all price tiers, the lower-end price tier is experiencing the most growth, indicating that it is still insufficient. As quickly as homes are being listed, they are being sold.

There is a 2.7-month supply of homes for sale between $100,000 and $250,000, but supply is up 19% from a year ago. On the other hand, there is a 4.2-month supply of homes priced above $1 million, but supply is up only 5% from a year ago.

Despite an increase in supply, home prices remain high, with gains in May 2023 being only 4.9% higher than the previous year. While the gains have begun to shrink slightly, this is not the case everywhere.

CoreLogic's chief economist, Selma Hepp, stated that spring home price gains have persisted in markets with low pre-pandemic inventory levels, particularly in the Northeast.

"This spring, markets in the Midwest, which are relatively more affordable, have experienced healthy price growth."

Florida and Texas, despite experiencing larger growth in the number of homes for sale, are currently witnessing lower prices compared to a year ago, according to Hepp.

It is uncertain whether mortgage rates will decrease and if the supply-demand imbalance will allow prices to decrease in the second half of this year, despite analysts predicting an easing of prices. If mortgage rates do decrease, demand will increase, putting additional pressure on supply and keeping prices high.

Inventory will continue to rise as the mortgage rate lock-in effect decreases, and this trend will be particularly evident in the upcoming quarters. Despite this, current inventory levels will continue to support new construction and some price growth on a national scale, according to Dietz.