Yu: Welcome to Asset TV. I'm Michelle Yu. Thanks for joining us as we have a great panel discussion here in our New York studios with our friends at Thrivent Asset Management. Joining me today from Thrivent are Steve Lowe, chief investment strategist, Eric Johnson, equity consumer research analyst, and Tracy Pamperl, director of investment grade research.

Housing prices are a factor that influences consumers on if they want to spend money. So, let's use this to segue into discussing the housing market and if consumers are struggling right now. What are your thoughts about this, Steve?

Lowe: It's been a really tough environment because mortgage rates shot up then mortgage rates are a function of the Federal Reserve raising rates. And what that did is it significantly dampened activity in housing markets. Existing home sales have remained very depressed, and that's a function that they got a lot less affordable, and partly due to what's called the lock-in effect. So, people had low cost, and they have low-cost mortgage distilled from the pandemic when mortgage rates were as low as 3% or so. And once the Federal Reserve started raising rates, mortgage rates shot up pretty significantly which makes housing less affordable.

So, 8% was the peak of it and it's still around 6%. But that's still a big step-up if you look at what people pay right now. So, if you look at the what's called the effective mortgage rate, that's in the mid-three area. So having a house payment from 3% to 6% makes housing less affordable. And we expect that to go down as the Federal Reserve lowers rates. That should spur some activity, particularly in existing homes. And that's really important for the economy because if people buy a house that generates more activity. So, look at what they do. They buy furniture, they buy appliances, they do remodeling, and that's really important for the economy and that should start going up with lower rates.

Johnson: Yeah, as Steve mentioned, housing is pretty important both mathematically and psychologically. For most consumers, the overwhelming majority, in fact, it's their largest asset. And so, perceptions around price levels really influence not only mathematically how much they can spend, but psychologically how much willing they to go out and extend. There's some unique wrinkles here too because the U.S. consumer in our economy, in our housing market now, we have far less variable rate exposure than we have had in prior cycles, most recently the global financial crisis.

And then also relative to other global economies, Canada, Australia, much more variable rate sensitive. And so, they've seen a slowing of consumer spending at a faster clip than we have because those rate hikes are transmitting to them much quicker. So, the U.S. has also been in the supply constraint. There's a few factors here. You have the 2010s, you saw less homes built than in prior decades new supply in the market. You had the millennials finally came out of their parents' basement a little bit later than prior cohorts, but they have moved out and our household formation is picking up. And so that has driven more demand. And then you also have the older generation.

It's been easier to age in home not only because of technology making it easier, but it's cheaper than home healthcare, nursing home care, which has gone up quite a bit above general inflation. And so those services have gotten more expensive. Older generations have aged into homes, constricting housing supply on the open market. So, this has allowed considerable equity to amass. And in the early days of the pandemic this was a super stimulant for consumer spending because there was two key reasons, we took the ten-year yield drove mortgage rates down to 3% or less as Steve noted.

And you also had multiple years of home price appreciation really pulled forward in two and 18-month period. And so, this allowed consumers to perform cash-out refis at very compelling levels. And effectively how this worked was the consumer they would take an equity check out of their house for tens of thousands of dollars, they would keep their monthly payment the same or actually even lower as they refinanced at lower rates, all for the slight cost of locking into a new 30-year mortgage which may be extended their total term four or five years, but on a month-to-month basis didn't change their expense profile.

So, the math for this is the average consumer they got a significant boost to their annual income, no change in expenses. And you saw this get plowed into goods spending pretty aggressively. Now in 2022, as the Fed started to hike rates and yields went higher, this window closed for cash-out refinances. And this equity level remains very elevated on paper, but the problem is it's a little harder to access now. HELOCs are a watch point for us. Home equity line of credits, there's a lot of equity, but the prevailing HELOC rate is generally significantly higher than the locked mortgage rate is. And so, consumers, are they going to be willing to tap that? That might be more friction for them, and so that's an area we watch going forward.

Yu: Let's get into more details about this because the housing problem isn't just being able to take advantage of equity. Aren't home sales and high prices affecting consumers, Eric?

Johnson: Yes, absolutely. And you look at this differently by two groups. A third of the country or so rents. They as asset prices, real estate prices went sky-high, those consumers quickly got passed price hikes by landlords very quickly. So, their cost of living in '21, '22, you had double-digit rent inflation in a lot of cities. And so that was immediate strong impact on those households. And that's the key takeaway. All the cost-of-living pressure hit them right away, whereas homeowners it was more elongated and drawn out because of that locked mortgage rate effect.

And going forward is the consumer rolls into new existing home turnover, they're going to lock into higher rates and that's weigh on discretionary capacity. And the second piece for homeowners, why it's a bit lagged is because insurance rates generally lag and property taxes. So, you're seeing that start to build and escrow accounts are having to be bumped up because of those higher costs. So, it is coming through more elongated and more muted for the homeowner than it was for the renter, but those are the two dynamics. So, it absolutely affects consumer spending. And both groups have had headwinds, it's just played out a little bit different in terms of timing.

Yu: Tracy, how do you see this?

Pamperl: I mean, just unfortunately these high mortgage rates are a negative for any potential home buyer. And it's across the board. So it could be that first-time home buyer that wants to get their first home, it's just very expensive. If someone's in maybe a smaller home, they're outgrowing it as they're having children, they want to upsize get more square footage, same thing, it's going to be a lot more expensive because the house is more expensive and the mortgage rates more expensive to upsize. And then there's this opposite thing that if you're becoming an empty nester you want to downsize.

If you have a mortgage on your house right now, even though it's much larger than maybe what you need or want at this point, if you're going to take a mortgage out on a smaller square footage home or townhouse actually your mortgage payment may actually go up. So, at that point, why don't you just stay? It's that lock-in effect you were talking about, Steve. Another interesting dynamic is usually when mortgage rates go up, housing prices come down some to offset each other so that the mortgage payments still stay somewhat equal.

And we just haven't seen that this time around. And that's because of the supply-demand dynamic, because we're not having both new housing and then existing housing isn't coming on the market the way that we're used to. So, we have home prices have actually stayed elevated. We have the mortgage rates while they're not at the peak, they've come down, but they're still very expensive. So, we have this double dynamic that's just, again, unfortunately making housing not affordable.

Lowe: Yeah, there's still a large shortage of housing in the country. I think you look at the age of the housing stock, it's as old as it was at World War II, and that's following the depression. So, there's a shortage that also pushes up pricing too.

Pamperl: More homes, bigger homes with garages and more square footage for sure. One of the indexes we watch closely at Thrivent is the housing affordability index. And what that looks at is for the average consumer and their wages that are coming in, can they afford an average mortgage on an average-sized house at the mortgage rates, at the housing prices? And what that comes in at is if that ratio comes in at 100, that means they have as much money as they need for that monthly mortgage payment.

If it's over 100, it means they have a bit more than they need. So that's a positive. Conversely, if it's coming in under 100, they don't have enough. So again, the affordability index, we've been running under 100 in the mid-nineties for almost three years now, so very explicit example of it's not affordable to the general U.S. consumer to buy a home right now.

Yu: Eric, do you see this trend changing or do you think it's going to be stagnant for a little bit?

Johnson: It could be challenging for a little bit. I mean, supply is slow to build. It takes a while for that to come online. You need plans in place to do that. And demographics really set this in motion. So, you have a bigger population. By birth year and the baby boomers that have aged longer into homes, and until that cycles through and that supply comes back onto the market, it's incremental ways that we can improve the supply. So, it could be sticky here in terms of tight supply for a while. HELOC utilization is the way out. If utilization rates tick up, that is a way consumers can extract equity and perhaps multi-generational and make it easier to afford homes and manage this from a consumer perspective, but it's going to probably be a tough sled from here.