Top 5 ways the Banking Crisis will impact Housing Market

Top 5 ways the Banking Crisis will impact Housing Market

By now I'm sure most of you have heard that Silicon Valley Bank, the 16th largest bank in America, has collapsed. Signature Bank has also collapsed. And First Republic Bank looks like it might based on a 70% decline in stock price.

There's numerous things that can be written about why this banking crisis occurred. And what the ramifications will be on the US economy. Especially in light of the depositor bailout announced by the FDIC and Federal Reserve.

In this post I want to get specific about the Housing Market. How will this banking crisis impact home prices and inventory on the Housing Market in 2023? What are the trends you need to watch out for as a homebuyer or investor? Particularly in metros impacted by the crisis.

Let's get into it.

1) Declining Consumer Sentiment will likely reduce Homebuyer Demand.

One of the first order impacts of a banking crisis will be a negative impact on consumer sentiment. Even with a government bailout of SVB depositors, I suspect many Americans are still rattled by the 2nd biggest bank failure in US history.

As a result - base instincts for many will be to cut back on extraneous expenses. Save more money. Maybe hold more cash and gold. And to probably delay that decision of taking out a Mortgage at 6.5% to buy a house at near all-time high prices.

This negative sentiment will be a problem for the Housing Market. Because homebuyer sentiment is already at the lowest levels of all-time. The most recent Fannie Mae Housing Survey showed 79% of Americans thought it was a bad time to buy a house in February 2023.

Housing Market sentiment will decline further due to the banking crisis.
79% of Americans think it's a bad time to buy a house (Source: Fannie Mae)

The net impact should be reduced homebuyer demand going forward. Which is scary given how low it is already.

2) Tech-driven Housing Markets like Austin, San Francisco, and Seattle are likely to get slammed.

Remember in 2020-21 when everyone thought it was such a great thing to own a house in a city where there was a lot of remote tech workers? Yeah, those days are long gone.

A recent Twitter post from Rick Palacios of John Burns Real Estate Consulting shows that tech-driven housing markets were already getting hit hard by home price declines.  

And those price declines will likely continue given the banking crisis. Silicon Valley Bank was headquartered in, you guessed it, Silicon Valley. First Republic, a bank that is having issues right now, is also headquarted in the Bay Area. These banks catered to tech companies. And even though the deposits are protected by the bailout, there will likely be many tech startups that decide (/are forced) to shut their doors as a result of this.

Metros such as Denver, Salt Lake, and Boston are also areas with a large tech presence that could feel a negative impact.

3) Mortgage Rates could go lower.

In fact, Mortgage Rates have already gone lower. According to Mortgage News Daily, The 30-Year Fixed dropped from 7.1% last week to 6.5% today. One of the biggest short-term drops ever.

Mortgage Rates dropped from 7.1% to 6.5% over the last week (Source: Mortgage News Daily)

Mortgage Rates are dropping because long-term bond yields are plummeting. Long-term bond yields are plummeting because there is a lot of fear in the market right now.

If the banking crisis worsens, and spreads to other banks, it's likely that mortgage rates/yields will continue to fall. And that that Recession everyone has been talking about the last 9 months will loudly announce its arrival.

Will falling Mortgage Rates act to stimulate the Housing Market? Maybe. But they'll need to go a lot lower than 6.5% for that to happen with a recession in the offing.

Note: Mortgage Rates are funny. Every time you think you know where they're going, they go in the opposite direction. So take my mortgage rate predictions with a grain of salt.

4) Odds of a Deflationary Recession or Depression just increased significantly.

Bank runs are no joke. And the systemic risk they pose is a threat to the entire economy. Even with a Fed bailout of depositors at SVB, I expect other banks around the world to tighten the belt on lending. And to start holding more cash.

These would be deflationary behaviors that strip the financial system of liquidity to make and refinance loans. Which could cause the money supply to decline. And thus create a deflationary recession or depression.

Note that the money supply is already declining. It's down by 2% YoY, which is the first annual contraction in money that has occurred in America in nearly 100 years.

Money supply contract greatly increases the risk of bank runs and a depression.
The Money Supply is contracting right now. A signal that the US economy could be heading for a deflationary recession or depression (Source: FRED / US Census Bureau)

The 4 previous times the money supply contracted were all associated with deflation, a banking crisis, and a depression. These instances included:

  • The "Long Depression" of the 1870s when the unemployment rate hit 14%
  • The Panic of 1893 when the unmployment rate hit 18%
  • The 1921 Depression when the unemployment rate hit 11%
  • And the Great Depression when the unemployment rate hit 25%

Not exactly a great list of comparables for the current situation. It's a high likelihood that today's 3.6% unemployment rate does not last for much longer. And that the initial wave of layoffs we saw in the tech sector spreads to other industries.

Deflation and surging layoffs would be a problem for the Housing Market. Homebuyer demand would decline further. It would also mean forced sales and evictions, which would cause inventory to increase significantly.

5) Watch the Fed. A lot depends on what they do.

The Fed is between a rock and a hard place right now. On one hand they're trying to fight inflation by hiking interest rates and reducing the money supply. But on the other hand they're now tasked with ensuring the banking system doesn't collapse.

What will Jerome Powell and the Federal Reserve do in response? Well, no one knows the answer to that million dollar question right now.

But one thing I feel confident in is that they're not going to completely abandon their fight against inflation. That would send a very bad message to US consumers and businesses when CPI is still growing at over 6% YoY. Such a move would greatly reduce the Fed's credibility.

As a result - I'm still expecting rate hikes and quantitative tightening over the next several months. But potentially at a reduced pace. The CME Fed Watch Tool is projecting 72% odds of a 25bps rate hike at the next Fed Meeting on March 22nd. And 28% odds that Fed keeps rate where they are.

Will the Fed continue hiking rates at the next meeting?
The CME Fed Watch Tool is projecting 72% odds of a 25bps rate hike in March.

Just last week it was 60% odds of a 25bps hike and 40% odds of a 50bps hike. With 0% odds of it staying at current levels. So while clearly markets are projecting some softening in the Fed's aggressiveness on inflation, they're still still projecting tightening.

But really, the thing you need to watch, is the Fed's Balance Sheet. The Fed has been reducing their balance sheet, and thereby "destroying money", through their quantitative tightening program that started in spring 2022. The result is that the Fed's balance sheet has contracted from to $8.3T since, an 8% decline from peak.

The Fed's Balance Sheet has been contracting. Will it continue to do so? (Source: FRED)

This contraction in the Fed's Balance Sheet has driven the reduction in the money supply. And ultimately is what I believe is driving the banking crisis. As a result, the Fed will be under pressure to begin printing money again to expand its balance sheet.

And that's something they might already be doing with their bailout of SVB depositors. The Fed basically promised to print money to cover depositor withdrawals until the FDIC liquidates SVB's assets and pays back the Fed.

All this is to say - the direction of the Fed Balance Sheet will tell you a lot about if we're going to continue on the current path of tightening, or regress into a money printing bonanza again. If they start printing money again, then the Balance Sheet would increase and inflation would go higher, thereby stimulating the housing market.

The current direction is unclear. However, I suspect that the Fed will not completely abandon it's quantitative tightening program since it still needs to maintain credibility in fighting inflation. And as a result, I expect the Fed Balance Sheet to keep declining and the money supply to keep contracting.

But we shall see everyone. We probably won't know for sure on the "direction" of the Fed until after their meeting on March 22nd.

I'm curious to know - what is your take on all of this? What's your GUT INSTINCT about what the banking crisis, Fed depositor bailout, and future contagion mean for the US Economy & Housing Market?

Let me know in the comments below. Especially if you're seeing anything interesting on the ground.