Sharply rising interest rates are decimating refinance volume, and those rates, along with sky-high home prices and a shortage of houses for sale, are hitting demand from potential buyers.

Last week, the average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($647,200 or less) increased to 5.65% from 5.40%, with points rising to 0.71 from 0.60 (including the origination fee) for loans with a 20% down payment. This week they surged even higher, with the average rate hitting 6.28% on Tuesday, according to a daily measure from Mortgage News Daily.

"Mortgage rates followed Treasury yields up in response to higher-than-expected inflation and anticipation that the Federal Reserve will need to raise rates at a faster pace," said Joel Kan, an MBA economist.

Weekly mortgage application volume rebounded slightly compared with the previous, holiday-adjusted week. Refinance demand rose 4% for the week but was 76% lower than the same week one year ago.

Mortgage applications from homebuyers rose 8% for the week but were 16% lower compared with a year ago.

"Despite the increase in rates, application activity rebounded following the Memorial Day holiday week but remained 0.29 percent below pre-holiday levels," added Kan.

The housing market is now reeling in a rising interest rate environment. After two years of record-low rates, fueled by the Federal Reserve's Covid pandemic-induced purchases of mortgage-backed bonds, home prices are overheated and affordability is now in the basement. Major real estate brokerages, Redfin and Compass, both announced layoffs Tuesday.