Is a real estate bubble to blame for sudden drops in the stock market? Does stock market volatility indicate that a housing crash and recession are imminent? Probably not. Although there are some correlations between stock market activity and the health of the housing market, there isn’t a direct, consistent cause and effect relationship between the two. There are always other factors at work that help to complete the big picture. Here’s some insight into how rates, the housing market and the stock market are intertwined, but still need to be considered separately.
Short-Term vs Longer-Term
Based on historical data, economists believe short-term volatility is to be expected in the stock market and generally does not spill over into the real economy. Corrections are a natural part of the stock market’s cycle. A stock market correction occurs when a market index (a weighted average of selected stock prices used to measure the overall performance of a market) reverses direction by at least 10 percent. Often a big plunge is nothing more than a blip that will correct itself over time. If the drop proves to be a longer-term phenomenon that lasts more than a couple of weeks, impacts could be felt across other areas of the economy, including labor and housing markets. A prolonged slowdown could cut into the buying power of households that have exposure to stocks, primarily through 401(k) and other retirement accounts. It could also lead to job and wage cutbacks.
The interest rate that moves markets is the federal funds rate and it’s the way the Federal Reserve attempts to control inflation. By increasing the federal funds rate, the Fed attempts to shrink the supply of money available by making money more expensive to obtain. Conversely, when it decreases the federal funds rate, the Fed is increasing the money supply, making it cheaper to borrow, and encouraging spending. When the Fed adjusts the federal funds rate, it does not directly affect the stock market itself. The increase makes it more expensive for banks to borrow money from the Fed and that cost increase is passed on to borrowers, creating a ripple effect that eventually impacts the stock market.
Another metric more directly tied to the housing market is long-term Treasury bond rates. Historically, bonds have gone up as stocks go down. Investors tend to increase demand in bonds as an alternative to stocks, driving up bond yields, which can lead to higher mortgage rates. Long-term bonds tend to be a more direct indicator of mortgage rates than the stock market or interest rates themselves. According to a February National Mortgage News article, Freddie Mac Deputy Chief Economist Len Keifer recently stated that if current inflationary concerns persist and “if the economic outlook doesn’t shift substantially, we still expect to see longer term interest rates, including mortgage rates, trend higher this year.” This a perfect example of how experts use the overall economic outlook to anticipate market trends.
While some cause and effect relationships are predictable among economic indicators, many of the impacts are indirect and less certain. If you want to know more about the economic data that is driving potential trends in rates and markets to help inform your home financing decisions, contact a loan advisor near you.