Are We in a Real Estate Bubble?

By Brad Greiner, CEO of OpenAiRE Brokerage and Open Air Homes

 

With the surging home prices in the U.S., many people are wondering if there will be a housing bubble in the near future. Home prices rose in 99% of the 183 markets the National Association of Realtors tracked in the third quarter of 2021.

And 78% of those markets saw double-digit spikes in appreciation. While housing prices were rising before the pandemic, prices have been on a tear ever since. The median existing house price has surged to $405,000 in March 2022, which is the first time it’s gone over the $400,000 price threshold. So, home prices are higher than they’ve ever been.

As we move out of the pandemic, steady mortgage rates, job recoveries, and the law of supply and demand have all been working to make the housing market explode.

So, are we in a housing bubble?

No. Just because home prices are rising and other signs are evident doesn’t mean housing is in a bubble. Here’s why.

Are We At Risk for a Housing Bubble?

Common signs of a housing bubble include:

• Increases in home prices outpace inflation
• Lack of affordable housing
• Stagnant wages as housing prices continue to rise
• High numbers of subprime mortgages
• Investors and flippers are everywhere
• Rising mortgage interest rates

Many Americans are still reeling from the last housing crash in 2007 during the recession.

Until recently, the possibility of another housing bubble wasn’t a popular topic. But researchers at the Federal Bank of Dallas who have looked at housing markets across the U.S. believe that new evidence of a bubble is emerging.

According to their evidence, the housing market is displaying unusual behavior since the boom of the early 2000s. For example, the price-to-rent ratio and the price-to-income ratio show signs that 2021 house prices are increasingly out of sync with fundamentals.

Home prices are outpacing wage increases, especially in popular markets like Phoenix, Arizona. And experts expect prices to rise even more. Fannie Mae predicted that the median price of a previously owned home would exceed $400,000 by mid-2023. And the spiking mortgage rates aren’t likely to help. The Federal Reserve approved of increasing rates to curb growing inflation. Yet, Bank of America predicts rising mortgage rates won’t be enough to stop the housing market from reporting strong growth through 2022.

Historically low interest rates, pandemic-related stimulus programs, and COVID-19 supply chain disruptions are increasing the demand for homes in the U.S. This has resulted in a rise in house prices. And as the prices of homes rise, some investors may experience a fear of missing out, or FOMO, and might look to take advantage of the high prices.

Home builders have gradually increased construction since the pandemic. But the number of new homes isn’t sufficient to meet demand. Hybrid work models, fueled by the pandemic, have further powered housing demand.

Americans living in apartments in the country’s largest cities are fleeing for the safety and bigger spaces of the suburbs and smaller cities. Many of these consumers are buying homes and are willing to pay higher prices that seem like bargains compared to the prices they’re used to paying in the city.

Another driving factor of rising home prices is the increase in Millennial-aged home buyers. Many of these younger home buyers are starting families and are looking for homes with more space. The age group now accounts for nearly half (43%) of homebuyers in 2022. Millennials, along with many other factors, are contributing to the increased demand for homes in the U.S.

On the other hand, older Americans are now living longer and staying in their houses than ever before. Whereas, previously more of them would move in with their children or to assisted living communities. These lifestyle trends further contribute to the housing shortage.

 

What Rising Home Prices Mean for the Current Market

House prices are rising so far so fast that they’re becoming more and more out of sync with construction costs, household incomes, and apartment rents. If prices continue to rise more quickly than incomes, owning a home will ultimately become unaffordable for many Americans.

The same can be said if prices get too far ahead of rents. It could become more feasible to rent a home than buy it. And if home prices continue to cost more than home construction, contractors are more likely to keep building homes.

With that said, the housing market is indeed overvalued. However, it’s not a bubble. That’s because the housing market is under a major increase in demand, which is coming face-to-face with a lack of inventory. This means that the market isn’t putting enough supply up for sale to meet demand. And while pricing is unlikely to decrease, buyers will continue to outbid one another for what little housing is available.

Therefore, these are fundamental reasons why housing prices are rising, and not artificial ones.  In other words, these are real factors underpinning the increased demand for homes in the U.S., including demographics (i.e. increase in Millennial home buyers), pandemic-related lifestyle changes like remote work, etc.

Another sign of a real estate bubble that the recent market isn’t exhibiting is a speculative market of investors. While house flips have picked up in recent months, they’re still not a serious concern. In fact, much of the flipping is by investors purchasing older homes in less bubble-prone areas. Plus, the gross profit margins on home flips in 2021 sank to their lowest level in more than a decade, according to ATTOM.

 

What Would a Real Estate Bubble Mean for Homebuyers?

Buyer demand will remain strong in 2022, according to experts. In the months leading up to 2022, homes for sale received an average of 3.8 offers to buy, up from an average of 3.5 offers in late 2020. While this isn’t a significant increase, it’s still important to note.

The persistent lack of supply in today’s housing market, coupled with surging demand, is driving up home prices and leaving some prospective buyers out of the race. The rising prices have left the goal of owning a home unattainable for many first-time buyers. Yet, even in a seller’s market, demand will continue to surge. This means that buyers who want to compete in the market can’t make offers below market value. Otherwise, they end up losing to interested bidders who are willing to pay more.

 

Will Buyer Demand for Housing Remain Strong?

Most housing experts are predicting the market to remain strong for a while. The housing market will likely stay hot for many reasons:

• Millennial demand for housing is increasing. More and more first-time home buyers, most of them younger than 40, are entering the housing market. This means the buyer pool is deep, which will likely keep demand up.
• Supply can’t keep up with demand. The low supply of homes is fueling demand and higher home prices. With the significant shortage of homes, it would take several years to add enough new supply to balance the market.
• Borrowers are less likely to default on their mortgages. With tighter lending standards and more creditworthy homeowners, those approved for a mortgage are less likely to default than borrowers in the pre-crisis lending period.

 

How Today’s Market Is Different From the Great Recession Housing Bubble

Real estate experts, economists, and home buyers might see key similarities between what’s happening today and the 2006 housing market. Before the recession, home prices rose to heights that made homeownership increasingly unaffordable until the bubble burst. But things are different today.

Fifteen years ago, loose lending practices and rampant investor speculation in the market pushed up real estate prices to unsustainable levels. Back then, more people were in the housing market to flip homes. This means It was a lot easier for buyers to get a mortgage to speculate in the housing market.

Today, there aren’t enough homes to sell to everyone who wants to buy. Builders aren’t putting up houses at the rate they need to keep up with demand. Difficulty finding skilled workers, limited lot availability, the high cost of lumber and building materials, and zoning issues have been significant obstacles for builders.

Also, fewer people are selling. 79% of homeowners would rather renovate their homes than move. Even though high home prices could compel homeowners to sell, they would have to buy another home, which means they’d have to enter today’s tough buyer’s market.

And finally, there are more buyers. More people are interested in becoming homeowners. Thanks to Millennials entering their prime home buying years as well as an increase in remote and hybrid work models, more people are looking to buy homes.

 

The Housing Market Outlook in 2022

Will the housing market calm down? Will the inventory of available homes ever match up with demand? Experts predict it’ll be two years before monthly inventory returns to pre-pandemic norms. Rising mortgage rates will likely take some buyers out of the market and slow the rise of home prices.

But buyers shouldn’t expect a drop in home prices any time soon as it’s unlikely with tighter lending practices, building shortages, and increased demand.