The State of the Housing Market
By Neil Tamhankar, Gabby Skinner, and Eshan Gupta
The housing market, composed of the forces of supply and demand for housing, has been in great fluctuation throughout the pandemic. Mortgage rates, which are the interest rates that homeowners pay on the loans they take out from a bank to buy a home, have been kept low during the pandemic. Rates have been kept low because of the recession triggered by the pandemic in early 2020. The Fed reasoned that low rates will enable consumers to more easily purchase homes, increasing consumer spending and lifting the country out of the recession. However, the situation is now reversed: with inflation at a 40 year high of 8.5%, mortgage rates are rising, to the detriment of homebuyers. What does this mean for the housing market as a whole?
Current State of Housing Market
As a pandemic swept the world in 2020, it caused mayhem in the housing market continuing into 2021. As a result of Covid-19, people were less willing to buy homes due to lack of money (unemployment skyrocketed during the pandemic). The restrictions of the pandemic made it harder for consumers to purchase goods, leading to many businesses losing money. This led to decreases in many people's salaries, and therefore their abilities to buy homes. Additionally, during a crisis, people tend to save money instead of buying new houses or investing in companies. Health restrictions also limited visiting access, increasing the difficulty for prospective home buyers.
Luckily, the pandemic has settled down. Now that 2022 has reached spring and it's almost summer, the year enters a busy season for real estate. However, housing inventory, or the amount of homes for sale, has severely decreased over the past 5 years. In January of 2017, there were roughly 1,200,000 active listings in the US. As of March 2022, there are merely around 380k listings. There is a deficit of inventory, where demand greatly exceeds supply. This leads to prices of housing growing higher and higher. The Case-Shiller Home Price Index, an index that tracks home prices across the country, rose 31% from April 2020 to February 2022. In California specifically, the housing market is one of the most profitable in the country. The cost of housing in California over the past three years has largely increased. From 2020 to 2021, median housing costs increased by 20.3%. In the following year, from 2021 to 2022, housing prices increased by 18.4%. The sale pace, or the frequency of sales, grew 0.5% from February to March this year, showing immense buying enthusiasm.
The competitive market in California continues to stay inflated. The limited inventory and large demand leads to many purchasers bidding higher than the original price of the home. Competition between buyers forces them to bid more money, increasing the overall price of housing. This impacts California’s affordability, because prices continue to rise due to competition and demand. Additionally, Americans across the country are migrating from urban centers to the suburbs. The majority of housing in urban cities is apartments while housing in the suburbs are mostly large family homes. The movement of population to the suburbs adds to the increased demand for homes.
Current sentiment
After the widespread pandemic, people are hopeful that the market will be prosperous. Alas, many people are concerned about possible supply chain disruption because of the military and economic problems currently taking place. Due to conflict between Russia and Ukraine, the US is suffering a negative supply shock. This can lead to people withholding from buying and investing in new properties. People have a high demand for houses but the negative supply shock leads to low inventory. Along with the war in Ukraine, global awareness has altered the current sentiment of Americans. According to the Saffery Champness inaugural Real Estate Sentiment Index survey, over 70% of participants agree that the industry isn’t doing enough to prevent climate change. A large priority for many participants is energy efficiency and carbon footprint reduction. Variables like global, military and economic problems impact the current sentiment of the US market.
The Great Recession
This isn’t the first time the housing market has been in turmoil. The recession of 2008 was the worst economic recession in the United States since the Great Depression. The main cause was the burst of the housing market bubble. For the majority of 2000s, housing prices and demand steadily increased. Unfortunately, an increase in subprime mortgage loans (risky loans given to people with low credit scores) and risky investments in mortgage backed securities led to the bursting of the bubble. Many banks who insured these loans or made risky investments ended up shutting down after borrowers defaulted on their loans or their investments plummeted in value. Lehman Brothers, one of the biggest investment banks in the world, declared bankruptcy, shocking the financial markets. The Great Recession served as a stark warning to investors and banks about prioritizing risky assets. Banks learned their lesson, and now are much more careful about risky loans and investments related to mortgages.
Predicting Bubbles
Bubbles, including housing market bubbles, usually are only identified in retrospect after they burst. However, it is possible to detect a bubble in the housing market and act on it. The main characteristics of a housing bubble are high inflation, high demand for houses, and low supply of houses. There is currently inflation, high demand, and low supply. However, this doesn’t mean we are in a bubble. Rising mortgage rates due to inflation could lower demand (higher prices = less demand at every price level), cooling the housing market. However, if we are currently in a housing bubble, it could be burst by the Fed’s interest rate hikes. The interest rate hikes could make homeownership unaffordable for current homeowners, leading to foreclosures and bankruptcies. Of course, the interest rates could have no effect at all on homeowners; this is just one of many possibilities. A general rule of thumb for predicting bubbles is to see if demand is greater than supply, which it currently is in the housing industry. This does not necessarily mean we are in a bubble since there is no way to know until either it bursts or it doesn’t, but high inflation and housing supply deficit point towards a bubble.
This is a remarkable time for the housing market. Using past events like the 2008 Recession can help predict what might happen in the future. When looking closely at the current state of the housing market and current sentiment, one can attempt to predict housing bubbles. Currently, the housing market shows signs of a housing bubble. Only time will tell how this plays out.
