Mortgage Rate Volatility and Its Impact on Housing Market Liquidity: A Fixed-Income and Real Estate Perspective

The U.S. housing market in 2025 remains a study in contrasts. While mortgage rates have edged downward-averaging
6.19% for the 30-year fixed-rate mortgage as of December 4, 2025-the broader market is still shackled by affordability constraints and a persistent "lock-in effect." Homeowners with historically low rates are reluctant to sell, reducing inventory and stifling liquidity
according to Milliman's Q2 2025 report. This dynamic has created a paradox:
refinance activity surged by 63% year-over-year in Q2 2025, yet purchase demand remains muted, with existing home sales flat and new home sales
declining by 4%. For fixed-income investors and real estate allocators, navigating this environment requires a nuanced understanding of how rate volatility intersects with asset performance and structural market shifts.

Housing Market Liquidity: A Tale of Two Forces

The interplay between mortgage rates and housing liquidity is complex. On one hand, the modest decline in rates has spurred refinancing demand, offering a temporary boost to market activity. On the other, high rates continue to deter traditional buyers, pushing first-time and low-to-moderate-income households to the sidelines
according to mortgage underwriters. This has created a vacuum filled by cash-backed investors, who
accounted for nearly 27% of all home purchases in Q2 2025. While such activity has propped up transaction volumes, it has also
exacerbated affordability challenges, as investors outbid mortgage-dependent buyers.

Inventory trends further complicate the picture. New home inventory increased by 8% year-over-year since Q2 2024
according to Milliman, but housing starts and permits have declined, signaling ongoing supply-side bottlenecks. Meanwhile, the month's supply of existing homes dropped to 3.8 months in November 2024
according to Freddie Mac, underscoring the imbalance between demand and supply.
J.P. Morgan forecasts a 3% or less growth in home prices for 2025, a stark contrast to the explosive gains seen in earlier cycles. This subdued outlook highlights the need for structural interventions-such as policy-driven construction incentives or rate normalization-to restore liquidity.

Fixed-Income Investing: Duration, Quality, and the "Belly" of the Curve

For fixed-income investors, mortgage rate volatility has reshaped strategic priorities. The focus has shifted from macroeconomic forecasting to identifying durable credit opportunities. At firms like Harris | Oakmark,
the emphasis is on businesses with robust balance sheets capable of weathering rate fluctuations. This approach is particularly relevant in sectors like healthcare, where
market overreactions to temporary headwinds have created undervalued opportunities.

Duration positioning has also become a critical tool. As the Federal Reserve signals a potential easing cycle, investors are tactically adding duration when yields rise and selling when they fall. The "belly" of the yield curve-specifically the 3- to 7-year segment-is seen as a sweet spot for returns,
given its alignment with expected rate cuts. Vanguard's active fixed-income managers, for instance, have trimmed credit risk and moved up in quality to hedge against unexpected events like trade policy shifts
according to Vanguard. Similarly, Loomis, Sayles & Company recommends a bias toward the 5- to 7-year Treasury curve to balance long-end yield risks
according to Natixis.

Structured products, including commercial mortgage-backed securities (CMBS) and asset-backed securities (ABS), have also gained traction. These instruments offer defensive characteristics and flexibility in volatile environments, with
robust issuance volumes and attractive yields. For example, Agency MBS par coupons have emerged as a compelling value proposition,
offering potential price appreciation amid rate uncertainty.

Real Estate Asset Allocation: REITs and the Power of Diversification

Real estate investment trusts (REITs) have demonstrated resilience in 2023–2025,
delivering total returns of 14% in 2023 and 9% in 2024 despite rising Treasury yields. Looking ahead, experts
project 8–10% total returns for 2025, driven by modest earnings growth and limited new supply in key property types. Subsector performance, however, has diverged sharply.
Specialty REITs surged by 36% in 2024, while industrial REITs lagged with -18% returns
according to Cohen & Steers. This divergence underscores the importance of sector selection, with healthcare and data center REITs emerging as growth drivers due to demographic trends and digital infrastructure demand
according to Uniplanic.

Mortgage rate volatility also impacts REITs indirectly. For instance, Alexandria Real Estate, a healthcare-focused REIT, maintains irreplaceable assets in prime locations despite macroeconomic headwinds,
trading at spreads that reflect its durable fundamentals. This aligns with broader investor preferences for simplicity and clarity in investment theses,
particularly in an environment of prolonged uncertainty.

Conclusion: Navigating the New Normal

The 2023–2025 period has underscored the need for adaptive strategies in fixed-income and real estate investing. Mortgage rate volatility continues to constrain housing market liquidity, but it also creates opportunities for investors who prioritize quality, duration management, and sector-specific insights.
As J.P. Morgan notes, structural changes-rather than incremental rate declines-will be critical to unlocking market balance. For now, a disciplined approach that balances income generation, diversification, and active security selection remains paramount.