One of the best things to come out of hosting a daily LIVE Q&A for all of you on Instagram is the insights I get into your most pressing questions. And right now, lots of you want to know is this a good time to buy a house? Many of your concerns are colored by the last recession when housing prices fell substantially. So, let’s take a look at some key housing market metrics to see how today may differ from 2008… and provide some insights for what may happen to housing prices over the next few months and years. Prefer to listen? Catch a deep dive on the housing market and why prices are rising on this week’s podcast episode of Finance Explained.
This post was originally pubished in May 2020. Data has recently been updated as of April 2021.
What Drives the Housing Market?
When all of you keep asking ‘Is this a good time to buy a house?’, what you are really asking is ‘Are housing prices going to fall again as they did in 2008?’ The housing market, like many other markets, has numerous factors that impact both housing demand and housing supply.
And if you can remember way back to high school economics, the market price is set by the intersection of those two curves.
Back at the start of the pandemic, a rather extreme market shock hampered the normal function of the housing market, limiting transactions while pushing up prices. But that trend has persisted, with listings (housing supply) continuing to drop precipitously. To understand the bigger picture beyond just the last 12 months, let’s dig in to the longer-term trends underlying the housing market, and where they are headed in the coming months and years.
Since the price of houses in the housing market is determined by the intersection of overall housing supply and housing demand, let’s take a look at some of the factors driving each side of the market.
Housing demand is driven in the long-run by household growth. But in the shorter-term, demand can be highly impacted by the mortgage market.
The biggest long-term driver of demand in the housing market is household growth. The more households we have, the more houses we need. And household growth is driven by two key factors: population growth and demographics.
Over the last 60 years, the US population has grown steadily, though the growth rate has slowed from 1.40% to less than half that, at now 0.65% annually.
However, it is still growing, and in particular there are 3 critical demographic factors that add to general population growth to make households grow even faster.
Millennials are often referred to as the echo boomers of the Baby Boomers. The Baby Boomers are a population bubble resulting from children born after the end of WWII during the 1950s. And the millennials are their children, creating a second population bubble.
Millennials are now hitting prime household formation – and home buying age. In addition, their parents, the Baby Boomers, are living and staying in their own homes longer. Both these demographic trends add to the housing demand, and boost household growth.
Further adding to housing demands are that fewer people live in every household. In the 1960s, the average household was 3.3 people, with nearly one-quarter of households having 5 or more people. Today, households average 2.5 people, with fewer than 10% of households having 5 or more people. All of the shift from larger families has been to one and two-person households.
While household size does tend to tick up temporarily for a year or two following recessions, potentially creating a short-term headwind for household growth (which you can see already for 2020), the long-term trend continues to be towards smaller households.
Last but not least, more people own homes today. While we are far from the inflated ownership peak of the 2000s housing bubble, an increase in homeownership also drives increased demand for homes. We often see a downturn in this rate during and after recessions driven by a financial crisis (like the Great Recession in 2008). I don’t expect this to be a persistent trend coming out of the current recession, but only time will tell.
And more importantly, as you look back at all these factors – there is no huge deviation from the long-term trend, like the bubble in homeownership we saw in the 2000s. The population is growing. Household size is steadily decreasing. And there is a population bubble in prime household formation age – all of which supports increasing demand for housing.
Interest rates also play a role in the demand for housing. When rates fall, it makes mortgages less expensive and homes more affordable. It may even make people willing to buy more expensive homes because, with lower interest rates, they can afford a bigger purchase price for the same monthly payment than they could have afforded at higher interest rates.
Mortgage rates are highly correlated with 30 year US Treasuries, and as treasury rates have dropped during the recession, mortgage rates have followed. Mortgage rates hit all-time historic lows last year, but since the start of 2021, as market interest rates have increased, mortgage rates have too. However, they still remain near historic lows, and demand for mortgages – both to buy homes and refinance – is high.
Demand for mortgages was extremely high through most of 2020. However, this high demand is tempered by lenders tightening their standards for mortgage loans. Last Spring, 100s of my followers shared their mortgage and refinancing experiences. Many reported longer processing times than normal, stricter appraisals, lower loan-to-value requirements for refinancings, and multiple employment verifications both during the process and even following the closing.
Lenders were super nervous about borrowers losing their jobs at the height of the pandemic, and some borrowers were even asked to sign waivers that they won’t use forbearance on new mortgages. Lending standards are especially tightening for loans that do not qualify for government protections.
Note that these track the opinion of Loan Officers on tightening of lending standards. As long as it remains above 0, standards are still tighter – it’s only if they drop below, that loan officers are loosening standards. It appears in the latest survey for Q1 2021, standards have stabilized, but that means they are still tighter – meaning banks are requiring things like higher credit scores, stricter appraisal values, more proof of employment – than they were pre-pandemic.
What Lenders Are Saying
One of my Instagram followers is the Quality Control manager for a national mortgage lender. She reached out to offer the following insights about what lenders are grappling with in the current environment. The following is a summary of the key points she shared with me.
Regarding Longer Lending Processes
When interest rates fall, the demand for loans increases dramatically. To give you an indication of the demand increase, we have been funding over 6,000 loans per month lately compared to about 4,000 just a few months ago, a more than 50% increase in volume.
Lenders are not staffed to handle a huge increase in demand – nor is it practical for them to do so, as these periods of higher volumes don’t last very long. It’s also not as simple as just hiring more underwriters (the people who review loan documentation and approve loans), as it requires skill and experience.
There are not enough underwriters, and in periods like this, their compensation increases dramatically, and companies poach underwriters from each other. This results in staff shortages, at the same time you are dealing with more volume and having to keep track of changing requirements.
Some borrowers may require IRS income verification. Recently, the IRS had shut down on processing income transcripts and only re-started at reduced capacity, which has been another source of processing delay.
Lenders do tend to prioritize new purchase mortgages over refinancings in high demand periods because borrowers have to get financing by a more strict deadline in order to get into their homes.
Loans eligible for GSE protections (Government Sponsored Enterprises, which for mortgages include Fannie Mae, Freddie Mac, and Ginnie Mae) have to comply with all the requirements provided by the GSE. Every GSE right now has issued different requirements, and lenders are struggling to keep tabs on all of them, as they are constantly changing.
For now, VA loans are based on the loan size and the appraiser’s discretion. FHA loans require a full interior/exterior appraisal inspection on all new construction properties, renovation loans, and all cash-out refinances, but they allow an exterior-only on purchases or refinancings that are not new construction or renovation loans. Fannie Mae and Freddie Mac have flexibilities only if your current loan that you are paying off is already a Fannie or Freddie loan. But this could all change next month.
Regarding Income Verification
The main way to ensure people will be able to pay back their loans is confirming that they have a job or steady income source. Given the increasing unemployment rate, lenders need to make sure borrowers are employed up to, and even on, the closing date. Otherwise, they are lending money to someone who has no ability to pay it back.
Our company’s requirement is to make sure a borrower is employed, and their income is stable within 48 hours of closing. It is especially complicated for self-employed borrowers because it is harder to verify their income stream is still stable.
Forbearance definitely is an issue right now. While using forbearance may not impact your credit score, it’s still on your loan history. Lenders do not want to give someone a loan, when they have recently told their existing lender(s) they can’t pay. Our company and the GSEs have special rules we are following on this also.
The Mortgage Banking Association announced in early May 2020 that over 8% of mortgages right now are in forbearance, which is a huge number of loans. Servicers are inundated with borrowers looking to apply for forbearance, and many borrowers don’t realize how it will impact them in the future.
Historically, defaults spike during recessions due to unemployment, and at historically low mortgage rates, lenders cannot afford to lend without being cautious. These tighter lending requirements are the one area tempering demand for houses in the current market. We have seen defaults tick up slightly already – but the widespread availability of forbearance, as well as the generally higher credit quality associated with most mortgages today – is likely to keep defaults at a minimum… for now.
So overall, long-term trends support strong demand for housing. And if we return to our supply and demand curves, increased overall demand for housing, results in more homes sold at higher market prices.
Now, let’s talk about the supply side of the housing market. Housing supply basically boils down to two components: new housing completions added to the housing stock and existing home inventory.
New Housing Completions
Historically, we have seen housing completions exceed household growth by about 30% annually. This is necessary to replace deteriorating housing stock. However, following the Great Recession, we saw a dramatic fall off in new construction, and since that downturn, housing completions have been below what is needed to meet household growth demands.
This has created a housing supply shortage, especially at the middle and lower ends of the housing market, as that is where demand is greatest and not enough new construction is being done. According to Freddie Mac, the leading government-backed mortgage lender, the housing shortage increased to 3.8 million units by the end of 2020 vs. long-term demand. The main driver of the housing shortfall? The long-term decline in the construction of single-family homes.
Existing Home Inventory
Active listings have been trending down for the last several years, even as demand for housing increases. This trend accelerated dramatically during the pandemic, creating a bit of a vicious cycle.
The pandemic brought even steeper declines to active listings, as sellers were staying home during quarantine, and less likely to want to open their homes for showings and to buyer traffic. As one local realtor pointed out, even sellers who would like to move or upgrade to a bigger home, they can’t find anything on the market, so they aren’t listing their existing home with nowhere to go.
This short supply paired with high demand is pushing prices up, mostly organically, as multiple offers above listing prices are coming in for homes given limited options for buyers. Homes are selling faster (with median days on market down double-digits, and fewer and fewer homes see any type of price reduction vs. listing price, with most realtors anecdotally reporting far more sales over listing price.
And as I shared with you at the outset of this post, deals are getting done at higher prices, given short supply.
To further demonstrate housing is in short-supply, we can also look at homeowner vacancy rates. This is housing for sale that lies vacant. At the start of 2020, we saw homeowner vacancy rates that we hadn’t seen since the 1970s. So far, vacancy rates have remained at these historically low levels.
So, overall, we see a reduction in new housing stock, and fewer active listings, leading to a reduction in supply. This shifts the supply curve to the left, resulting in fewer homes sold at higher prices.
So, is this a good time to buy a house?
So what does this all boil down to in terms of buying a house right now? What does it mean for housing prices and whether or not this is a good time to buy a house?
Current Market Dynamics Support Prices
Increasing demand for housing, driven by household growth and low interest rates, combined with a supply shortage from fewer housing completions, causes rising housing prices.
These supply/demand dynamics are especially true in the lower and middle price portions of the market, where most first-time homebuyers are looking to buy. This is why we see prices at this end of the market rising, as well as little to no inventory.
But Housing Affordability Is Concerning
One metric to keep an eye on is housing affordability. Median home sale prices, pushed up by the supply and demand forces outlined above, continue to grow faster than median family household incomes.
Housing affordability compares median home sale prices to income, and that ratio is back at pre-Great Recession levels. While the current record-low mortgage rate environment helps make this attainable, if incomes fall during a period of long, drawn-out unemployment, or if interest rates substantially increase, this will become unsustainable.
Already, in many metropolitan markets, housing affordability exceeds even these high national ratios, placing home ownership out of reach for many families and keeping rents inflated as well.
Markets are Local & Decisions Long-Term
Two last key points I want to remind you all of:
- Real estate is local.
- Buying a house, like any major investment, should be a decision you make for the long-term.
Realtor.com provides many of the metrics I shared here on a national level for major metropolitan areas, by county and even by zip code. If you are in the market for a home, I would highly encourage you to check out the real estate data for your area of search to know just how competitive the market is in your area.
Everything I’ve talked about above is what is happening at the national level. And many of these trends exist in markets across the country. But it is important to understand exactly how these supply and demand forces are playing out in your local area. Check out this replay on IGTV of local realtors from around the country talking about the dynamics they are seeing in their markets right now.
Those in densely populated urban areas, like New York City, may be experiencing a decline in population right now, while more suburban neighboring areas reap the benefits. Regionally speaking, the South continues to grow faster than the Northeast and Midwest. So be sure to look at these metrics on a more regional and local basis as well.
And as our local realtors shared, the market can change, and they, as well as many potential sellers, are waiting for supply to increase as we head further into the Spring and Summer selling season, so be sure to ask a realtor in your area what they are seeing when you are looking. The questions I asked each of the realtors in the LIVE Q&A above are a great list to use to gain insights into your market.
Finally, remember that you are buying a house to make a home. Most of us aren’t doing it to flip it and make a huge profit in the near-term. We are looking to live and raise our families there for a while. Be sure to frame your purchase decision through that lens, and think about where the market will be over the long-term, not just in the next 12-24 months. However, if you don’t plan to be somewhere for a while, it may not be the right time to buy for you.
What else would you like to know about the housing market? Feel free to leave them in the comments below, or join me for LIVE Q&A on Instagram Wednesdays and Fridays at 9:30AM ET. I’ll also be covering a deep dive of the Housing Market and the factors that drive it on this week’s Finance Explained podcast.