The Mortgage Rate Lock-In Effect: Why Homeowners Are Staying Put and When It Might Ease

The mortgage rate lock-in effect, a phenomenon where homeowners are reluctant to sell because it would mean giving up a low-interest mortgage for a much higher rate, is a primary driver of America's ongoing housing shortage. However, this effect is slowly easing as life events and market changes force decisions. As of early 2024, 85.7% of U.S. homeowners with mortgages have an interest rate below 6%, a significant financial disincentive to sell when the current average rate is higher. While this locks many in place, the percentage of homeowners with these ultra-low rates is gradually declining from its peak.

What is the Mortgage Rate Lock-In Effect?

The lock-in effect describes the financial dilemma faced by homeowners with a mortgage interest rate substantially lower than the current market rate. Selling their current home and buying another would require them to take out a new mortgage at today's higher rates, significantly increasing their monthly payment for a similarly priced home. This creates a powerful incentive to stay put, thereby reducing the number of existing homes listed for sale and contributing to low inventory levels.

How Many Homeowners Are Actually Affected by Low Rates?

Recent data provides a clear picture of how widespread low-rate mortgages are. According to an analysis of the Federal Housing Finance Agency's (FHFA) National Mortgage Database for the first quarter of 2024:

• 85.7% of mortgaged homeowners have a rate below 6%.
• 76.1% have a rate below 5%.
• 57.4% have a rate below 4%.
• 22.0% have a rate below 3%.

While these figures are down from record highs in 2022, they still represent the vast majority of homeowners with mortgages. This data underscores the scale of the challenge, as most homeowners would face a significant financial penalty for moving.

Why is the Lock-In Effect Beginning to Ease?

Despite the strong financial incentive to stay, the lock-in effect is not permanent. The share of homeowners with rates below 6% is gradually declining for two main reasons:

1. Life Events Take Precedence: Major life changes such as a new job, family expansion, or divorce often necessitate a move. For these homeowners, the need to relocate outweighs the financial benefit of keeping their low mortgage rate.
2. New Homeowners Enter the Market: Every homeowner who has purchased a property within the last year did so when the average mortgage rate was above 6%. This group is not "locked-in" by a low rate, adding to the pool of potential sellers over time.

Furthermore, some homeowners have built up substantial equity—the difference between the home's market value and the mortgage balance—during the pandemic price surge. This equity can provide a cushion, making a move more feasible, especially if they are downsizing or moving to a more affordable area.

What is the Future Outlook for Mortgage Rates and Inventory?

The future of the lock-in effect is tied directly to the direction of mortgage rates. Recent weeks have seen a decline, with the average rate falling to 6.46%, the lowest in 15 months. This is still far above the pandemic-era record low of 2.65%.

Market expectations are focused on the Federal Reserve, which is anticipated to begin cutting its benchmark interest rate later in 2024. Based on our experience assessment, if mortgage rates were to fall to around 5%, it could motivate a meaningful number of locked-in homeowners to finally list their properties. As one real estate professional noted, many sellers are waiting for this threshold. However, the pace of rate cuts depends on economic data, and if the Fed moves slower than expected, mortgage rates could see temporary increases.

For homeowners considering a move, the key considerations are:

• Calculate the financial impact of a new mortgage payment at today's rates.
• Evaluate your equity position, as high equity can offset higher borrowing costs.
• Weigh the necessity of the move against the financial trade-off.

The lock-in effect is a powerful market force, but it is not absolute. As life circumstances evolve and the financial calculus shifts, more homes are likely to gradually trickle onto the market.