An extremely rare signal just triggered on the housing market

Past performance isn’t a reliable indicator of future results.

This line here shows existing home sales in the United States, which are now sitting at one of the lowest levels in over a decade — to levels we last saw during the depths of the Great Financial Crisis. This other line shows US home prices adjusted for inflation, and it's sitting near the highest level in history.

You'd expect that just like any other product, when demand drops, prices would drop, too. But the housing market right now seems to be breaking that basic rule of economics.

To understand what's really happening, we first need to look at one of the biggest forces shaping the housing market. That is mortgage rates, or simply the cost of a home loan. Over the past 3 years, mortgage rates have surged to their highest levels in decades at above 6% and they've stayed there. That's roughly the same level we saw in the years leading up to the 2008 housing crash.

Now, if we overlay existing home sales on top of this, the relationship becomes clear.

The housing market has always reacted closely to borrowing costs

When mortgage rates fall, sales tend to rise. Buyers rush in as loans become cheaper. But when rates climb, homes are less affordable, which slows down demand. This pattern has repeated itself throughout history.

Between 1995 and 1998, as mortgage rates trended lower, home sales surged. Then when rates ticked higher in 1998, the market quickly cooled, only to rebound again once borrowing costs eased around 2000. The same rhythm repeated through the 2010s and again during the post-pandemic boom in 2021.

And today is no exception. The surge in mortgage rates over the past 3 years has led home sales to drop by about 35% — from around 6.2 million houses sold per year to just about 4 million. In simple terms, higher borrowing costs have made many buyers out of the market, leaving housing demand at one of its weakest points in over a decade.

And historically, this combination of high mortgage rates and weak sales have often preceded broader corrections in home prices.

Take the mid-2000s for example. Between 2005 and 2010, home sales began collapsing almost 2 years before inflation-adjusted prices really started to fall. As demand dried up, it created an over-supply of homes, leading prices to eventually follow the same downward path.

The same pattern played out during the housing downturn of the early 1980s. Home sales peaked around 1979, then fell sharply as borrowing costs surged. That collapse in demand led to several years of falling home prices from 1980 to 1984.

Both of these housing downturns didn’t just hit home prices

They hit the entire economy. This is because for most people, their home is their largest part of their wealth. So when home values fall, people feel poorer. You can see it in this chart. During 2008, as home prices dropped, the Conference Board’s consumer confidence index plunged from about 100 to just around 20.

And as confidence drops, consumers often pull back on spending. That spending slowdown can quickly ripple through the broader economy, turning a housing slump into a full-blown recession.

But again, today, things look different. Mortgage rates are sitting at their highest levels in decades, and home sales have been falling for more than 3 years. Yet, we haven’t seen a meaningful correction in home prices. There are several factors that could explain why.

One major reason is in something called homeowner equity. Put simply, homeowner equity is basically how much of your home you actually own. It’s the total value of the property minus the outstanding mortgage debt. And today, American households are sitting on around $35 trillion in home equity — more than double what we had before the 2008 crash.

That means homeowners are far less dependent on debt and have a much larger financial cushion. So even if prices dip, most homeowners aren’t forced to sell.

And even those with mortgages are holding up well. This chart shows the share of mortgage loans that are behind on their payments. And today, it’s near record lows. That’s a very different picture from the years leading up to the 2008 housing crash when delinquencies were already rising and many homeowners were forced to sell into a failing market.

Today, most homeowners are in a much stronger position — sitting on record equity and manageable payments — which is why we haven’t yet seen a meaningful correction in home prices. At least, not yet.

Home sales dropped simply because the housing market froze

Sellers don’t want to sell at lower prices because they don’t need to, and buyers can’t afford to buy at current prices because mortgage rates are still high. But this doesn’t mean home prices can stay elevated forever.

If home sales continue to slide from here, the standoff between buyers and sellers might eventually break. At some point, sellers could step in to meet the market — accepting lower prices to clear deals. That would likely trigger a decline in home values and dent consumer confidence. And as we’ve seen in both 2008 and the early 1980s, that chain reaction can quickly spill over into the broader economy, potentially pushing it into recession.

The other possibility is if home sales are actually finding their bottom here and begin recovering. If that happens, it could stabilize home prices or even push them higher. That would help preserve household wealth and keep consumer confidence intact, potentially allowing the economy to avoid — or at least delay — a downturn.

One catalyst that could tilt the balance is Federal Reserve policy

The Fed has already begun cutting interest rates, lowering them in September and October, with markets expecting more reductions to follow. When the Fed eases policy like this, mortgage rates typically move lower, making homes more affordable and encouraging buyers back into the market.

Ultimately, whether the first or second scenario plays out is yet to be seen. Even the most seasoned market analysts and economists can’t predict the outcome with 100% certainty. But tracking the housing market and understanding the signals it sends can give us important insight into where the broader economy might be heading.

At Capital.com, we’ll continue to track the developments on the housing market and other key indicators shaping the economy and keep you updated. Explore more insights in our Educational Hub.

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