Before coronavirus (BC), the real estate market was on a tear. In February 2020, national median listing prices were up 3.9 percent year-over-year, and due to the low supply in many parts of the country, prices were re-accelerating. The spring market is always the busiest for Real Estate, and the spring of 2020 was looking like it would be white-hot.
With record-low unemployment, low rates, and tight inventory, the market was postured to post yet another great year. Of course, that was all before the coronavirus pandemic.
The catchphrase ‘unprecedented times,’ currently being used to refer to just about everything that’s happened in 2020, applies to the real estate market as much as anything. New Construction dropped 30% drop from March to April. Home Sales also dropped in April to 17.8% and were down 17.2% YoY, the lowest level in 9 years.
Real Estate is really in unprecedented times. Never before in recent history has the US real estate market been so deeply affected in such a short period of time. Home sellers withdrew from the market due to the lockdowns, and many were prevented from listing their homes at all. New Listings declined by 28% compared to just a year ago.
The further drop in inventory has left even fewer options to choose from, causing a current frenzy for those few homes left on the market. Buyers that had long been waiting to buy are now competing with more buyers, creating many multiple-offer situations.
In many real estate markets, we have even seen an uptick in prices due to the high demand and low supply. Nationwide asking prices moved up 1.5% year over year in May, but we are left to wonder, how long will this last? What will the real estate market look like 2, 5, and even 10 years from now? And when is a good time to buy or sell?
A Look At Real Estate In 1-2 Years
Unlike the stock market, real estate is much slower to price correct; in the last recession, which was caused by the real estate market, it took real estate 5 years to reach the bottom. This time, the rapid drop in inventory has caused an anomaly. While many would-be buyers have lost employment, many sellers have pulled their homes off the market at the same time. This unusual situation has prevented the real estate market from proper price discovery.
Price discovery is the process of figuring out what an asset like real estate is worth. Investors or buyers often look at previously sold, similar assets to determine the current value. In residential real estate, an appraisal is done by comparing previously sold homes with the subject property being appraised.
The challenge today is that homes are being compared to homes that sold a few months ago when unemployment was at historic lows. In April, the unemployment rate jumped to 14.7 percent, a number not seen since the Great Depression. Many agree most jobs will return, but no one knows how long this will take. Will there still be more sellers than buyers when this is all over? Or will low inventory keep prices stable?
The virus has caused panic and uncertainty all over the world. Usually, when people are uncertain of their job security and pay, they avoid making major puchases, like a new house. Experts think it might be several months or even years before we see a normal, stable market. Other experts believe the pandemic will cause many foreclosures and short sales.
The increase in supply may or may not affect prices, depending on the scale and length of the crisis. The two major variables are the spread of the virus post-lockdown and the legislation, in Washington. If a second wave of the virus is even deadlier than the first, it could cause a second lockdown that would put markets into a spin.
Congress and Washington have done an extraordinary job so far. They have acted more quickly than ever before and provided a backstop to all markets. The CARES Act, passed in March, froze evictions and foreclosures and gave homeowners the option to put mortgages in forbearance for a whole year or 360 days.
The number of homeowners in mortgage forbearance has now reached 4.75 million. This is 9.0 percent of all active borrowers nationwide and represents a little more than $1 trillion in unpaid principal. This has given a backstop to the Real Estate market and prevented a possible tsunami of foreclosures and evictions because people are unable to pay for housing. The government acted quickly to prevent major housing distress while the deadly pandemic continues.
However, this historic legislation from Congress is not without risk or consequences. Newton’s third law holds true: “For every action, there is an equal and opposite reaction.” The forbearance will likely save a lot of homeowners, but for many others, it will only delay the inevitable. You can restructure debt and even add the missed months to the end of the mortgage, but if jobs have not returned, there will be no income to pay for the house that once was affordable.
Once the assistance period is over, those unable to afford their homes will lose them anyway. In the recent Great Recession of 2007-08 many homeowners also had Congressional aid to try and save their homes, but this only delayed the foreclosure process for many and created a negative equity situation for those that were able to keep their homes. It took the real estate market 5 years to correct; its lows were recorded in 2012.
What’s Most Likely To Happen In 1-2 Years?
Housing is a different situation than it was in the mid-2000s. Unlike 2008, today the real estate market is far from being overbuilt. The housing market had multiple double-digit appreciation years from 2003-06. Though many markets have surpassed 2006 highs now, it has taken a full decade to get there. The carnage of ‘08 seems very unlikely to happen again, but the stress will vary in different parts of the country. I expect some states to be more affected than others.
Cyclical markets and those markets that depend on tourism like Florida (Orlando) Nevada (Las Vegas) and Arizona are likely to be hit the hardest. These are states that also have large amounts of second homes (summer homes) and many short term rentals (Airbnb).
The drying up of revenue from lack of tourism and unemployment will put many homeowners to have to make tough decisions. This will likely cause variation in foreclosures in some parts than in other parts of the country. Overall I expect stable prices till then. If inventory stays low, even if it’s accompanied by a lower amount of buyers, it is likely to maintain relatively stable prices in most of the country.
Mid Cycle 2-5 Years- The Restructuring Stage
Homeowners’ ability to claim forbearance will likely cushion the real estate market from a rapid drop in real estate prices. However, if the U.S. experiences a prolonged period of high unemployment, it will also be accompanied by a spike in foreclosures. The increase in home inventory combined with high unemployment will likely put heavy downward pressure on home prices, creating an environment similar to the 2008-2012 period.
Experts also expect consumer behavior to change after the pandemic is over. If the pandemic is deep and long-lasting, it could change consumers’ behavior for the rest of their lives. Americans who lived through the Great Depression carried that fear throughout their lives; the Depression created a generation of super-savers and risk-averse investors. Although we all hope this time will not be anywhere close to as devastating as the Great Depression, some are already seeing a change in consumer behavior.
According to a recent study, it only takes an average of 66 days for people to create new habits. A change in culture will change home requirements, and the housing industry will change forever. Many more Americans are now working from home, getting many of their necessities delivered, and staying far away from densely populated areas—and those are only a few of the many things that have changed around the world in just a few months’ time.
Americans purchase or sell homes when life changes create new housing requirements. Young families buy as their families grow, and older Americans usually sell when family size decreases. Many experts predict future buyers will have different requirements for their next home; things like office space and workout areas might be added to the list.
Large companies like Facebook, Twitter, and Google have extended work-from-home through the end of the year, and many have even stated the work from home arrangements will likely stay even after the crisis is over. This has many people rethinking housing.
In a recent interview with CNBC, Redfin’s CEO stated that their latest data revealed a shift to more rural parts of the country from those searching. This makes sense if many Americans will no longer have to commute to work. Eliminating commute time would give many Americans additional free time and make distance from work less important than it was pre-crisis. In a recent interview, the CEO of Facebook pointed out that working from home would allow them to scout the whole nation for talent to hire.
A change in culture and work conditions will cause many Americans to search for homes further away from the city, which would both keep them away from the areas hardest hit by the pandemic and lower their tax burden. Taxes and cost of living will likely increase in importance when it’s time to pay off the country’s new debt.
What Is Most Likely To Happen In 2-5 years?
The period following the pandemic will be a restructuring stage, where we will get acquainted with homeowners’ new priorities and discover what they will be willing to pay for housing in this new environment. I expect home prices to have a correction period or even a momentary stall during this stage.
A reshuffling in employment and supply chains will likely take some time, and it might take a few years for the real estate market to reflect consumers’ wants and needs and adjust prices accordingly. The pandemic will change consumer behavior forever, but the changes might take a few years to play out.
Even if we come out of the pandemic in a better than expected condition, the debt the nation absorbed during the pandemic is here to stay. 6 Trillion dollars went on the balance sheet—over 100% of GDP, a number not seen since 1930’s.
A Look At Real Estate 5-10 Years
So many different factors could impact the real estate market in the next decade or so, and we will face a host of problems—some familiar and some unprecedented. We are living through a critical time in history and facing once-in-a-lifetime challenges that can change generations and whole countries. So, my best-educated guess is just that: a guess. =) Who knows what’s to come.
The very best of minds anticipate many different outcomes and possibilities, but the truth is, no one knows. As a whole, we will make decisions based on what lies ahead and make housing changes accordingly. Of course, a study of history allows us to anticipate the most likely outcomes based on current economic, demographic, and geographic truths. I want to go over the two most likely outcomes and their impact on real estate prices.
Ray Dalio, the famous hedge fund manager, believes we are living in an economic period resembling the 1930’s-1940’s—the period just after the Great Stock Market Crash of 1929 and the Great Depression that followed. The country had a large wealth divide and was experiencing booms and busts similar to today. The 1920’s even had their own real estate bubble. The Florida land boom of the 1920’s was Florida‘s first real estate bubble, and it burst in 1925. The country as a whole was divided.
The period 1930-1940 (The New Deal) saw exponential money printing, along with many new economic reforms like the Federal Deposit Insurance Corporation (FDIC), U.S. Securities and Exchange Commission, government-implemented minimum wage, the creation of the 8-hour work day, and the abolition of child labor. President Roosevelt also moved to put to rest one of the most divisive cultural issues of the 1920s: he signed the bill to legalize the manufacture and sale of alcohol, ending prohibition (like marijuana today).
The period created a generation of super-savers whose mantra was ‘Use It Up, Wear It Out, Make It Do, Or Do Without.’ This generation is known as the Greatest Generation, for living through tremendous economic hardship and fighting a World War to top it all off.
Real Estate, along with the rest of the economy, was in a deflationary condition (meaning prices keep falling), a situation that caused many bank runs, poor consumer confidence, and very low levels of currency velocity—a metric now known to be critically important for economic recovery. Although real estate prices increased in nominal terms, adjusted for inflation they actually went down. In a study of the New York real estate market, about 10% of the U.S. Real estate at the time showed how much real estate prices dropped right after the crash of 1929.
Professor Anna Scherbina and Professor Tom Nicholas of the Harvard Business School recently completed a study of Manhattan home prices during the Great Depression. In a recent radio interview, Scherbina discussed an index of home prices in Manhattan between 1920 and 1939 that she and Nicholas collected by hand from the Manhattan Public Library archives. A decade before the 1929 Stock Market Crash, there was a booming real estate market in New York City that Scherbina says resembles the housing bubble of the 1990s and 2000s.
According to Scherbina and Nicholas’ working paper, “Real Estate Prices during the Great Depression,” the prices for a typical Manhattan house increased 62% after the 1929 crash, and then lost 51% of that value by the end of 1933. By 1932 and 1937, according to Scherbina, the Stock Market showed signs of rebounding, but real estate did not. A house purchased in 1920 would have lost 51% of its value (in inflation-adjusted terms) by the end of 1939. Scherbina and Nicholas report that housing prices didn’t recover until 1960.
Remember, no two times in history are exactly alike, and you should not expect this exact outcome for today’s real estate market. The very best economic minds have studied this time period extensively and we are not likely to repeat the same mistakes twice—but in uncharted territory, we can make new mistakes.
Economists believe 2020 also resembles the stagflation period of the 1970’s. The term ‘Stagflation’ was coined because it was a period of stagnant economic growth, high unemployment, and high inflation. This period in US History saw very high levels of inflation due to international trade tension, low economic output, and high public debt due to the Vietnam War.
In the ‘70s, inflation occurred because the dollar lost value overseas; in 1971, even France requested gold for dollars from the New York Federal Reserve Bank. The Inflationary period of the 1970’s saw real estate prices rise well above the inflation rate, but eventually collide with a high interest rate in the early 80’s—an attempt to control the high inflation. 1981 saw high interest rates and high unemployment, which put downward pressure on real estate prices until prices finally returned to the normal appreciation rate during the mid 80’s. Adjusted for inflation, real estate prices had a poor decade.
Demographic Challenges.
There is one more important difference between our current time and those two other periods in history: our possible geographical changes and demographic challenges.
The geographical area where we choose to live could change due to the acceleration in remote work, e-learning, and convenient delivery services. As discussed earlier, Americans might choose to lower their cost of living by moving further away from cities. This would cause lower real estate demand in cities and put downward pressure on prices in urban areas.
The biggest and likely most dramatic effect on real estate prices is demographics. The two largest American generations (the Baby Boomers) and their children or grandchildren (Millennials) are both likely to experience life-changing events in 2020 that will change their housing needs in the next decade.
Most Millennials have been living in the city, but in the next decade, many of them will likely be married and have children. More and more Millennials will probably leave the city in search of a home to raise children, in nearby suburbs or further away. At the same time, the Baby Boomer generation will be retiring and downsizing their homes.
About 30 million Baby Boomers are currently over 65 years old; by 2030, about 80 million Baby Boomers will pass age 65. Roughly one in three homes in the U.S. is owned by someone age 60 or older. As Baby Boomers reach their golden years, a growing number of homeowners across the country will pass away, and leave behind millions of homes. Millions more Boomers will choose to sell their homes as they downsize or move to retirement living facilities. Collectively, the vast inventory of homes owned by older Americans is worth an estimated $13.5 trillion, “equivalent in value to nearly three-quarters of the nation’s annual economic output,” according to Fannie Mae.
But Millennials probably won’t buy the McMansions left behind by Boomers. Crippled by student debt and financially behind due to the fallout of the multiple recessions, it’s difficult for millennials to afford the skyrocketing cost of housing. First-time homebuyers today will pay 39% more than first-time homebuyers did nearly 40 years ago. For comparison, Millennials own 4% of real estate value in the US; at their age, Baby Boomers owned 32% of the country’s real estate value, Christopher Ingraham reported for The Washington Post.
With the record low starter home supply across the country, the coming change could play out in two ways: either Millennials will need a rapid growth in income to afford the Boomers’ suburban mansions, or Boomers will have to sell at a steep discount. The reality is probably a little bit of both. There is a large gap in wealth between the two generations, with one third of real estate is held by boomers. With fixed income returns the lowest in over 50 years, Boomers are likely going to have to sell to lower expenses and liquidate assets.
Comment Below!!
