I have been an agent and real estate investor since 2001. I have seen the good times in the early 2000s, worked through the housing crash, and the good times again. A lot of people think we are due for another housing market crash because housing prices have increased in many areas of the country. Besides prices, there are many things that drive the housing market. In fact, prices cannot be used as an indicator of what the market will do because they are just a result of many other factors. Supply and demand are what push prices up or down. Supply is affected by foreclosures, homeowners’ willingness to move, new construction, and many other factors. Demand is driven by the economy, lending guidelines, potential homeowners confidence, wages, and much more. I believe the supply and demand affecting today’s’ housing market is much different than what drove the last housing boom. While prices could level out or decrease in some areas, I do not think we are in for a nationwide crash.
Are we due for a crash?
Many people are saying that because the housing market has seen huge increases in sin prices that a crash is imminent. Just look at what happened in the mid to late 2000s. Housing prices soared and then there was a crash! The first thing you have to realize is that the last crash was the worst crash we have ever had. Those crashes do not happen all the time like some people would have you believe.
Data about the market
Dennis Cisterna III was kind enough to provide this article that discusses the key factors that drive the housing market. Dennis is Chief Revenue Officer of Investability Real Estate, Inc. and an expert on housing trends and economic indicators. I chose Dennis to write this piece because I was so impressed with his podcast interview on my show. Dennis talks about the actual numbers when it comes to new house builds, lending guidelines, and if we are in fact due for another housing crash anytime soon. I also did a lot of research on my own about lending guidelines, affordability, building starts, and other issues affecting the housing market.
How likely is another crash?
When some investors think of real estate, they assume that because prices are generally rising across the country, we must be headed toward another crash. The truth is that’s simply not the case. A bevy of factors have come together that are serving to safeguard the economy against another national crash. We could see prices slow down, or decrease some, but a crash is unlikely. Increasing prices is not the only reason a crash must come. Other countries and the US have seen price booms in the past without a crash.
The last crash was also one of the most severe crashes the United States has ever seen. I think it is unlikely we will have another crash like that again for many reasons we discuss in this article.
The last crash was the biggest in recent memory and if you look at the data further back it is the same with small adjustments. A lot of people will also tell you we have a housing crash or recession every 10 years. If you average them out we have recessions every 18 years, but not always true for the housing market. The dot com recession did not affect housing much at all. Some times we have a recession 5 years after the last one and sometimes we have it 25 years after the last one. Even if we did have a recession every 18 years we have a long time to wait since the last recession was ten years ago.
There are also a lot of people who have been predicting a crash for many years. There are people on YouTube promoting their gold and silver businesses by talking about how real estate will crash. One of the big marketing messages they use is that they predicted the last crash! Well, if you look at their predictions they have been predicting a real estate crash every year for the last three decades. They were bound to get it right one of those years! I was an REO (foreclosure) broker during and after the last crash and there were so many people talking about how there was going to be a double-dip recession in 2012. We were going to have a tsunami of foreclosures and it would be much worse than the crash we just went through. Well, it never happened, in fact, the opposite happened.
No one knows for sure what will happen to the housing market. It could go up, it could go down, it could crash. But just because it crashed before when prices were high, does not mean it will crash again.
Why are mortgages harder to get now?
In 2005, subprime loans were rampant and as a result, the country over-leveraged itself. Subprime loans, the riskiest loan type given to borrowers with low credit scores, totaled more than $620 billion. Fast forward ten years and subprime originations make up only 5 percent of the mortgage market and add up to $56 billion. Compare that to 2005 when subprime origination made up 20 percent of the market. This represents a 91 percent decline from the height of bad loans that set up the economic crash.
Source: Inside Mortgage Finance; Equifax
Not only has subprime lending seen a major decline, but mortgages have also become much harder to attain due to stringent lending standards. According to CoreLogic’s Housing Credit Index, loans originated in 2016 were among the highest quality originated in the last 15 years. This is greatly due to the type of borrowers able to qualify for loans. The current average credit score for borrowers being granted mortgages is 739. In October 2009, the average FICO score was 686, according to Fair Isaac. The lowest one percent of mortgages issued have credit scores averaging 622-624. Compared to the average range in 2001 of 490-510, the standard to get financing has risen substantially, and as a result, the likelihood of default has dropped. Lenders have done this to ensure the economy doesn’t again become propped on bad loans like it was leading up to the Great Recession.
The difficulty in getting a mortgage combined with extremely high student debt strapping down the millennial generation continues to nudge people toward renting. Americans don’t have the savings they used to have that allowed them to put a down payment on a home. Historically, the average savings rate of a person’s income was 8.3 percent, but today that number is 5.5 percent. Rising education and housing costs continue to burden the new generation of potential home buyers, driving down home ownership rates in the U.S.
Source: Federal Reserve Bank
Interest rates are another important factor to consider. The Fed has only raised interest rates one half of a percent, but actual mortgage rates have come back down. That said, rates could eventually rise, so it’s wise for investors to prepare a strategy for when that occurs as it can impact their ability to finance an investment portfolio. Update: Mortgage rates have started to rise as the Fed continues to increase rates.
Is the United States Housing Market Unaffordable?
The affordability index continues to be stacked against potential home buyers. As housing and rental prices steadily increase, wages continue to stay relatively stagnant. Historically, the average income-to-housing cost ratio in the U.S. has hovered near 30 percent, but in some metro areas, that number is currently closer to 40 and even 50 percent! This strips away the opportunity to save money as a significant portion of a person’s monthly income is going to keeping a roof over their head.
Source: U.S. Census Bureau
However, the United States is still much more affordable than many other countries. Many of those countries have not seen a huge crash. People tend to find ways to buy homes, even when they are very expensive. Affordability in itself will not cause a crash. Although, it could cause a slowdown.
Is supply or demand at fault?
Housing supply is also an important dynamic to consider when looking at a then-and-now analysis of the housing market. Since mortgages were being given out with little regard to the borrower’s ability to pay back the loan, new home building skyrocketed to meet the new demand. In 2005, new home sales hit a 52 year high with 1.28 million new homes being built. Ten years later, only 500,000 new homes were constructed, dropping 61 percent from the peak ten years prior. An overall lack of inventory continues to be a driver in price appreciation.
Source: U.S. Census Bureau
While there are risks for local bubbles in markets experiencing inorganic growth, like the Miami condo market for example, it’s wise for investors to focus more on their own investment strategy and less on speculation of the overall market. If able to identify and clearly understand a market and its economy, investors can find success with single-family investments.
The biggest factor causing the housing market increase today is low inventory. The last crash was caused by horrible lending guidelines and overbuilding. We will continue to have low inventory until building picks up, and it simply has not happened. I cannot see another crash occurring until we see more new starts.
Why should we listen to Dennis Cistern?
As you can see from the numbers Dennis has on the housing market, things are much better than they were before the last crash. Lending guidelines are much tougher no matter what you hear. I see posts on Facebook all the time about how people can get low-money-down loans now, and that means the housing crash is coming. Low-money-down loans have been available for decades, and that is not what caused the housing crash. Really bad loans to people who should not buy houses is what caused the housing crisis. Those loans do not exist anymore, as you can see by the data Dennis provided. Yes, it is possible to get a loan with less than a 600 credit score, but very few people are actually getting those loans. When you look at the housing market, you need to look at the real numbers of how many houses are being built, what kind of loans people are getting, and how much house people can afford. Houses are not being built like they were before. The loans people are getting are much higher quality, and the market is much more stable than it was before.
When can we expect another decline?
The housing market will not grow forever, but it is hard to say when things will change. As Dennis said, real estate trends are very different in various parts of the country. Some parts of the country may see increasing prices for a few more years, while others may see a drop right away. I agree with Dennis that a housing crash like we saw in the mid-2000s is not coming anytime soon. I could see prices steadying out due to the affordability problems in some areas, especially if interest rates rise. Those two factors will not cause a crash when so few homes are being built and the quality of new loans is so high.
It is impossible to know for sure what the housing market will do. It will eventually go down, as it cannot go up forever, but the question is when will that happen and by how much? I feel that this market is driven by solid demand, solid lending guidelines. Couple that with low inventory and we will continue to see prices increase. If the builders start building like crazy, I would start to worry about another decline.