Lumber prices have started to fall sharply against the trend we have seen in other consumer commodities. The plunge has largely been caused by slowing demand in the housing market as high mortgage rates put a cloud of doubt on future financing.
In March alone, lumber futures have dropped by over 22%. At the start of the month. a thousand board feet of lumber was trading at $1,357. That figure has now fallen to $1,054 and is expected to fall even further in the near term.
The plunge in prices also comes after new reports showed that hose sales are falling. March was the second month in a row where home sales fell. According to the US Commerce Department, home sales for February declined by around 6% year on year. This came as a big shock for economists and other analysts who had hoped that the housing market would rebound in February after slowing slightly the month prior.
The drop in home sales is running against the backdrop of increased mortgage rates. Recent data shows that US mortgage rates have surged to multi-year highs with increasing Fed tightening. For example, the average 30-year fixed mortgage has surged to 4.75%. As the Fed continues to raise interest rates in an effort to slow down inflation and remove pandemic era stimulus from the economy, we expect further surges in mortgage costs before the end of 2022.
The housing market was doing quite well during and after the pandemic. As many other sectors of the economy got hit by the COVID-19 virus, the housing market saw increased demand with prices rising significantly. Much of this was triggered by the stimulative Fed policy that kept interest rates nearly zero during the pandemic.
This then meant that people could access cheap credit, making homeownership more affordable. But the cheap credit also came with inflation. Global supply chain challenges also contributed to increasing consumer prices. US inflation hit a 40-year high in 2022. It was expected that the Fed will start policy tightening with expected interest rate hikes. The US Fed is expected to hike rates at least four times this year in what will be a hugely unprecedented move.
But economists are warning that removing accommodative Fed policies needs to be done in a very careful way. For example, as demand slows in the housing market, prices will likely drop significantly. This may create the impression that inflation is slowing which is not necessarily true. The fear is that the Fed could use this illusion of reducing inflation to enact even tighter monetary policies.
This could end up hurting the economy even further. As of now, it is highly unlikely that the price of lumber will increase that much this year. As more interest rate hikes continue, the mortgage rates will rise further, making access to home financing harder. This will remove demand and as such, lumber will continue to fall.