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Recently, the housing market in the US has been experiencing a major boom quite unlike anything that has been felt in the past 14 years.
According to the National Association of Realtors, demand has been skyrocketing for the past months, with prices hitting all-time highs: median sale prices close to $350,000 and asking prices even higher. This price-frenzy is in large part due to supply being unable to quickly catch up to the unsurmountable demand, with almost 50% of offers under contract just one week after listing. For all involved, this expansion of the real estate business after such a long-lasting stagnation is indeed cause for celebration; however, for those whose memory does not falter, this scenario may seem reminiscent of what the American economy was experiencing prior to the housing bubble burst of mid 2000s that paved the way to the 2008 financial crisis. Thus, this poses the question: are those concerns valid and if so, should we worry that a new crash may be on its way?
What forces have been triggering this spike?
Numerous reasons have been behind the current real estate rally. As we have mentioned, demand has been pressuring a relatively distressed supply in the past months, leading to an increase in prices that is far beyond the levels one would expected in an economic crisis of this dimension.
Starting on the demand side of the equation, experts point out to three different reasons driving this demand mania.
First, by decreasing interest rates as a way to ensure liquidity during 2020, the FED forced mortgage rates to fell considerably during this period, reaching a record low of 2.65% in 2021 (from 3.73% in February 2020). Now, a 1 pp decrease might sound small for non-homebuyers. However, imagine a homebuyer buying a $300.000 house just before the crisis began. In this situation, he would, most likely, be paying up close to $499.000 over a 30-year mortgage agreement. Now, if that buyer had done the same deal in January 2021, he would be paying around $436.000, a discount of more than $60.000 (or 12.5%). This effect has incentivized buyers to look for more expensive houses than before, as it pushed them into the market to lock these mortgage rates before the FED tightens its policies.
Second, as Millenials are entering the housing market more fearlessly, the largest generation on Earth is now dominating demand, as they are keen to either leave their parents’ or just quit rentals. According to the National Association of Realtors, the median age of first-time homebuyers is now 33, which turns out to be the median age of Millenials. Alongside this, despite some increase in unemployment levels, salaries and overall income were kept stable the past year, as loose fiscal and monetary policies helped mitigate losses in purchasing power.
Combine low interest rates policies with no decreases in disposable income, plus a generation looking to buy their first house, well… you just set up a buying frenzy.
Finally, this pricing boom couldn’t be made possible without a supply shortage. In fact, after several construction companies went bankrupt during the Great Recession, fewer homes were built in the 2010s than in any decade going back to the 1960s. This sluggish construction activity has now been left out in the open in a market where home sellers are seeing double digit offers in the first 24 hours of bidding.
Moreover, with the pandemic causing some uncertainty regarding future paychecks, homeowners have had some reservations regarding the possibility of selling their current house and move to a more expensive one. Besides this, with a contagious disease spreading as fast as COVID-19, people do not want strangers traipsing through their living areas during open houses.
Finally, one recent element causing prices to rise is actually related to its intrinsic cost. Recent commodities shortages have been rising its prices significantly, ultimately increasing building prices and delaying orders. Lumber has been the most recent commodity on the spotlight, with its 3-fold growth in the past year raising housing cost by tens of dollars.
Is history repeating itself?
This resurgence of demand in US real estate and the booming prices currently being practiced have led many to fear that a new crash similar to that of 2007 may be on its way. However, all evidence points out that this current boom is quite the inverse to that of mid 2000s.
For once, the current boom is mostly motivated by an excess of demand over the supply (the reason why prices are being pushed up), whereas prior to the sup-prime crisis the opposite was verified: the market was over-flooding with houses and there were not enough high-rating buyers for them, which led to an opening of the market to low creditworthy buyers (which inevitably was at the root of the problem). Currently, the market is still experiencing a shortage of houses (definitely not enough to meet demand), as construction is still catching up to the slowdown that was prompted by the pandemic.
Moreover, nowadays, the type of buyers is also quite different from that of the previous boom. They are of a higher credit rating and much more willing to put on their own money to buy their house. As a matter of fact, real estate companies are reporting that a lesser amount of the houses is being paid with resort to loans, as customers put more cash up front. This poses a great contrast to the low-credit-rating buyers that dominated the housing market in mid-2000s, most of whom could not afford the houses they were signing contracts to acquire.
Finally, lending rules are much more restrictive, carefully attributing loans only to those with enough credibility to ensure future payments. Back then, risky mortgages were provided to households with a high default risk who had no means of paying for them and only small down payments were required most of the times. Therefore, prior to the financial crisis, the so-called NINJA loans (no income, no jobs, no assets) were the rule, which ended up being the downfall of the market.
All things considered, current circumstances are much different from what was observable in the past.
Is There a Bubble Though? And What Does the Future Hold?
Housing experts claim that the housing market is not yet in a bubble. This is despite home prices being soaring at historical highs across the country. However, some claim that a small price correction can take place.
On the one hand, while the housing market is composed by low inventories, high demand and a risk-averse lending environment, extreme spikes in home prices could result in some prices rolling back soon. Subsequently, in the future, these peaks in prices can disappear as people will return to their normal activities
The future will depend on the pace of new construction, the strength of the economy, the quantity of homeowners willing to sell their houses and overall demand in the market.
When it comes to buyers, people who could afford a home pre-COVID-19, will be, most likely, in good financial positions to buy a home after Covid, as the majority of this people is stable and financially comfortable.
On the contrary, people who lost their job or received low wages, even before the pandemic, could not buy houses, as they usually rent the places they lived in. So, unless there is a recession in the future, the level of demand will, most likely, not change anytime soon, causing housing prices not to decrease as well.
Sources: Better Homes & Gardens, The Wall Street Journal, VOX
Really amazing article. Thanks for posting such quality content. Now at least everyone will understand what real estate is all about.
Thanks for sharing such amazing information and I hope you keep on share such kind of useful information daily.
Thanks for sharing such amazing information about real estate. I hope you keep on share such kind of useful information daily.