The historic deterioration in the U.S. housing market, as told by 3 charts

In the eyes of housing bulls, the Pandemic Housing Boom entered 2022 with a lot of gas left in the tank. Work-from-home buying was still going strong. The U.S. housing market was still amid the five-year stretch that would see millennials born during the generation’s five largest birth years hit the all-important first-time homebuying age of 30, and it remained underbuilt by a number somewhere in the millions. Finally, tight lending standards coupled with a strong economy meant the potential for distressed selling was null.

Fast-forward to October, and the housing bulls clearly got it wrong. Not only has the Pandemic Housing Boom fizzled out, but Fed Chair Jerome Powell says it has been replaced by a “difficult correction.” Simply put: The combination of favorable demographics, tight supply, and “plain vanilla” lending wasn’t enough to stave off a housing correction.

How did they get it so wrong? It boils down to housing affordability. Spiked mortgage rates coupled with frothy home prices makes this a historically unaffordable housing market. It’s actually more expensive, relative to income, to buy now than it was at the height of the ’00s housing bubble.

“Affordability has evaporated, and with it, housing demand,” Mark Zandi, chief economist at Moody’s Analytics, tells Fortune.

To understand just how pressurized housing affordability has become, let’s take a look at the data.

Back in March, when Fortune reported that "an economic shock just hit the housing market," the spike in mortgage rates from 3.2% to 4.2% in the span of just three months were predicted to push the U.S. housing market into slowdown mode. That is just what happened.

Of course, affordability has continued to worsen since this spring. As of Tuesday, the average 30-year fixed mortgage rate sits at 7.14%. That marks both the highest mortgage rate since 2002 and the biggest 12-month jump (see chart below) since 1981. In January, a borrower who took out a $500,000 mortgage at a 3.2% rate would be on the hook for a $2,162 monthly principal and interest payment over the course of the 30-year loan. Now, at a 7.14% rate, that monthly payment would be $3,374.

While the Federal Reserve doesn't directly set long-term rates, like mortgage rates, it does set the short-term Federal Funds rate. If financial markets believe the federal funds rate will remain elevated in the future, they'll apply upward pressure to long-term rates. That's exactly what financial markets did this year as the Fed flipped into inflation-fighting mode.

Where are mortgage rates headed next? It's hard to say. Heading into the spring 2023 buying season, Moody's expects mortgage rates to float around 6.5%, while Fannie Mae predicts the 30-year fixed rate will average 6.4% in 2023.

At its latest reading, Moody’s calculates that the vast majority of U.S. regional housing markets are "overvalued." That includes 210 housing markets, including Boise ("overvalued" by 77%) and Las Vegas (60%), deemed "significantly overvalued."

Simply put: The Pandemic Housing Boom saw U.S. home prices get frothy.

That matters. Historically speaking, when a housing market enters into a downturn—a period of falling home sales and home construction levels—"significantly overvalued" housing markets are usually at the highest risk of home price declines. The sharp home price corrections in places like Boise and Las Vegas—which started this summer—are once again proving that rule of thumb correct.

Heading forward, Moody’s now expects a peak-to-trough U.S. home price decline of 10%. If a recession does manifest, Moody’s expects a peak-to-trough U.S. home price decline of between 15% to 20%. But that's nationally. In "significantly overvalued” housing markets, the firm forecasts, home prices will fall between 15% to 20%. If a recession hits, the firm expects that home price decline to widen to between 25% to 30% in "significantly overvalued” housing markets.

At the end of the day, it isn't just about the numerical value of mortgage rates or home prices. Instead, housing market affordability comes down to new monthly mortgage payments relative to buyers' income. If a borrower can't meet lenders' strict debt-to-income limits, they aren't buying.

In that regard, things aren't looking great for would-be buyers.

In America’s 50 largest regional housing markets, the typical new mortgage payment has spiked 69% through the first nine months of 2022. That’s according to an analysis conducted by Zonda, a real estate research company.

"Housing affordability is driven by many factors, but the two key inputs are home prices and mortgage rates," Zonda chief economist Ali Wolf tells Fortune. "Interest rates have risen dramatically since the start of the year, though, putting a strain on housing affordability. Buyers were already starting to get priced out of the market when interest rates moved from 3% to 4% and every 100-basis point increase has continued to price millions of Americans out of homeownership."

As home prices soared during the Pandemic Housing Boom, borrowers were protected to a degree, with 2% and 3% mortgage rates making record home prices manageable. However, the spike in mortgage rates means buyers are feeling the full brunt of the Pandemic Housing Boom's 43% run-up in U.S. home prices. That affordability squeeze, of course, is why we're in a housing correction.

Want to stay updated on the housing correction? Follow me on Twitter at @NewsLambert.

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