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Bold Prediction: Will the Real Estate Market Crash?

Casey Fleming

Everyone wants to know: will the real estate market crash?  I’ve had this discussion many times lately, and opinions differ.  With no more expertise than any other armchair economist, here my bold predictions for the rest of 2022.

The Important Data Points

Listings are increasing in most areas.  This is normal this time of year.  The increase feels larger than normal, but the total number of listings in most areas is still far below historical normal.

The number of active listings in Silicon Valley suddenly exceeds the number of pending sales for the first time in months.  This is significant and is probably being echoed through most of the country.

Bidding War
Bidding wars are starting to moderate.

Anecdotally most homes are still sold with multiple offers, but fewer offers than just a couple of months ago.

Most homes still sell for well over their list price, but list price has become a soft number.  Most homes are listed for sale well below the anticipated final sales price in order to attract buyers.  So, the sale price-to-listing ratio isn’t a particularly reliable measure of how hot the market is.

Homes are still selling for far more than similar homes a year ago, so it appears home prices are still rising – so far.

The Coming National Real Estate Crash?

Nationally, our existing home inventory (existing homes for sale) is at about a 2-month supply.  This means that with the existing absorption rate it would take 2 months to deplete all the homes on the market assuming no new listings.  This is up from a 1.7 month supply in February.  Historically, when inventory has been at a 2 month supply home prices are rising by over 10% per year.  To get to 0% inflation of home prices (and therefore a real estate market crash) the supply would have to increase to about 6 months.  This would require tripling of the current inventory, assuming no increase in the number of prospective home buyers.

However, anecdotally, many home buyers have become discouraged and have dropped out for now.  If the market becomes more balanced, it’s reasonable to assume that many of them will come back into the market.

We are probably already in a recession, but the tools used by the central banks to pull us out of recession probably can’t be used to their full effect because they will spur inflation.  So, the recession could be drawn out.

Finally, the number of new homes constructed in the last 14 years has been significantly less than new household formation.  We simply haven’t built enough homes.

The Conclusion – Will the Real Estate Market Crash?

Listings will increase to about a 4-month supply by the peak buying season this summer.

Many, if not most, discouraged home buyers will re-enter the market.

Home prices will be 5% to 10% higher than they are right now.  (Obviously depending on when you buy and where you are shopping – all real estate is local.)

Prices will level off to very small price gains this coming winter as the buying season draws down, but increase again in early 2023 as we come out of recession.

The market is changing right now, but we will not experience a real estate market crash.

This is my $0.02.  Remember, if I’m right that you heard it here first.  If I’m wrong, I’ll delete the article.  All right, I won’t delete it, but don’t be too harsh.

If You Want a Deeper Dive: Economic Background – Supply and Demand

Supply and Demand drives the price of Real Estate
Notice the steep demand curve? That’s called inelastic demand – buyers outnumber sellers.

Real estate is fundamentally driven by supply and demand.  I’ve written before about that concept.  The supply of available real estate -measured by the number of housing units across the country – changes very slowly.  Active listings – the number of available homes for sale — changes faster, but still not overnight.  Selling your home is not an impulse decision.

In order for us to see a real estate market crash, we would have to see listings jump rapidly and demand decline dramatically.  There’s no reason to believe either one of these things will happen.

Demand

Demand for real estate also usually changes slowly over time.  Demand is driven by two elements: desire to own a home, and the ability to pay for it.  Desire and ability to pay can also both be broken into two elements each.

Desire is driven by the fact that everyone needs a place to live, but also their beliefs about the real estate market.  When home buyers believe that values are only going up, they are more anxious to buy and are willing to pay more.  If they believe that values might come down, their willingness to stretch declines.

The ability to pay for real estate can be broken down into cash on hand (for the down payment, closing costs and other expenses) and income to support the monthly housing cost.

Supply

Supply can also be broken down into components: the cost to provide the product, and the motivation of the seller.  Developers cannot easily or quickly reduce the cost to build new homes, and they are motivated by profit, so the supply of new housing units changes very slowly over time.  We can argue it changes too slowly, and the lack of new housing development has brought us to our current imbalanced market.

Existing housing, however, is different.  The “cost” to produce the home isn’t relevant.  Most homeowners have owned their home long enough that regardless of market conditions they will sell their home for more than they originally paid.  Their motivation is different, too.  Sellers of existing homes usually sell because they want to move up to a larger home, move to a different area, or downsize to a smaller home.  It’s rare that the primary motivation for selling would be simply to pull money out.  (There are other solutions for that.)

However, once again beliefs about market conditions can change motivation.  In the last few years, the rapid rise of home values has driven potential home sellers to hold back as they’ve watched their home values continue to go up rapidly.  In 2008, we found that a widespread belief in a real estate market crash drove homeowners to sell their homes in a panic.

However, selling real estate is an expensive endeavor, and moving is difficult, time consuming and expensive, so few people sell their homes impulsively.  Because of this, the supply curve also tends to shift very slowly and incrementally.  Only during extraordinary times, like the financial crisis, does the motivation shift so dramatically that the supply curve can shift rapidly.

Supply and Demand in 2022

Badly-conceived lending practices drove the dramatic real estate market crash during the financial crisis.  Lending practices since then have been much safer.  If we fall into a deep recession in mid 2022 – as some analysts are predicting – home owners who lose their income may find themselves in trouble, but defaults and foreclosures won’t happen on the scale that they did before.

More importantly, there simply haven’t been enough homes built since the financial crisis.  In a market where demand is stable, the number of new housing units built each year would roughly equal the number of new households formed.  But that hasn’t happened.  New home development has seriously lagged behind new household formation for years.

Deeper Dive: Housing Supply continues to Lag New Household Formation

New households form as a result of life.  People immigrate to the U.S. for work.  People graduate from college, move out of their parents’ basement (eventually, parents, I promise!) get married, and have babies.  Life happens in such a way as to dictate that it’s time to buy or rent one’s own place.  There are ways to mitigate the pressure, such as living in your parent’s basement, but the pressure is there.

Consequently, demand – which currently far exceeds the supply of available homes for sale – can’t shift quickly enough to drive a dramatic drop in the market.  In fact, a decline in bidding wars may have the opposite effect at first.  Home buyers who have been frustrated and given up may return to the buyer pool and intensify their efforts to buy a home if they feel the market is friendlier.

To be sure, the supply of available homes for sale will increase.  It’s already starting.  The demand curve is likely to shift upward, not down, at first.  If so, we will see no drop in home prices at all during these first two shifts.

On the other hand, if signs of panic selling appear and home buyers begin to believe that home prices will erode, the demand curve will shift downward and we could see slight declines.  But there’s no reason to believe that panic selling on any meaningful scale will happen, so this scenario seems unlikely.

The most likely scenario, in my opinion, is a more balanced market by the summer of 2022, a limited number of bargains during the winter months into spring, and a balanced market with normal appreciation in 2023.

What to Watch: Canaries in the Coal Mine

There will be signs of either a market shift or a real estate market crash.  In fact, there already are signs of the shift.  What would we need to see to predict a crash?

Increasing numbers of listings

Active listings are increasing
Active Listings Santa Clara Co as of 5/3/2022
H/T George and Karen Black of Intero Realty (408) 921-1711

No shift in supply and demand can occur until the number of homes for sale increases.  This is already happening in some areas.

Reduction in bidding wars

As the number of listings increases the bidding wars should die down.  When you see bidding wars taper off, you can bet that home values will begin to stabilize.

Hedge funds begin selling their properties

Wall street investors have been buying up tens of thousands of homes throughout the U.S. and converting them to rentals.  As the market stabilizes they are not likely to sell, since rents have risen and their investments are cash-flowing nicely.  However, if they back out of the buying market, they will take pressure off of the market frenzy.  If they decide to cash out and sell, the number of new homes listed could rise dramatically.  It would be contrary to their own interests to sell off all their properties at once, though, so that is highly unlikely.

Fewer Cash Offers

Fewer foreign buyers and fewer hedge fund buyers will mean fewer all-cash offers, making us average everyday home buyers better able to compete in the market.

What Smarter People are Saying

Bill McBride, publisher of the Calculated Risk Blog, noted that the existing inventory (available listings) had increased between February and March from 1.7 months to 2.  However, he points out that this is still very low.  “My sense is the Case-Shiller National annual growth rate of 19.99% in August 2021 was probably the peak YoY growth rate… Since the normal level of inventory is probably in the 4 to 6 months range – we’d have to see a significant increase in inventory to sharply slow price increases, and that is why I’m focused on inventory!”

Fortune Magazine writes: “Nationally, the latest forecast models—which all still predict continued home price growth in 2022—don’t foresee a price correction coming anytime soon.”

“If you’ve been waiting for home prices to go down before you buy, you might be waiting a long time, experts say. “  Time.com / Next Advisor article.

Business Insider writes: “Though there’s been speculation that the price appreciation we’ve seen isn’t sustainable, or even that the current housing market is a bubble, it’s not likely that home prices will fall this year — at least not with the way things are going right now.”

Bold Predictions

From time to time I’ve made bold predictions about the housing market.  I haven’t always been right, but I’ve been right more often than wrong, and when I’m wrong, I’ve usually been close.  I don’t mind putting my opinions out there.  A swing and a miss is better than watching the ball go by.  So here it is:

Listings will increase by about double by this summer.  This would put us at a 4-months supply of listings, which would drag home appreciation down to between 0.25% to 1% monthly increase in home prices, or annualized appreciation of 4% to 12%.

Frustrated home buyers who have given up will jump back into the market pushing appreciation to the top of that range, but rising interest rates will knock some of them out.  So, let’s split the difference and predict that we will see home prices rising by 0.625% per month through the rest of 2021, for annualized appreciation of 7.5%.

The price appreciation is likely to decelerate more in the winter months, but not correct.

There will be no real estate market crash this time around.

Waiting as a strategy

Don't miss out on the perfect home
Will more folks try to buy this year?

If you are in the market to buy a home, then, should you wait until this winter?  With more listings you’ll have more choices and competition might be a little less fierce.  However, we’re still seeing appreciation well over 1.5% monthly in most areas, and the hot buying season is just starting.  If you choose to wait for a softer market, you’ll pay more for the same home you could get today.

My advice has never really changed much over the years.  Buying a home is a long-term investment.  If you see a home that you love, do what you need to do to get into the home.  Maybe you’ll pay market value, maybe you’ll pay August’s price today, but you’ll pay far less than if you wait for a year or two, and you won’t be paying someone else’s mortgage (in the form of rent) until then.

Happy Shopping!

Casey Fleming, Mortgage Advisor and Author of The Loan Guide: How to Get the Best Possible Mortgage

About Casey Fleming: Casey Fleming is a veteran mortgage advisor (NMLS 344375) and Author of The Loan Guide: How to Get the Best Possible Mortgage.  Casey advises clients  throughout California, and is based in the heart of Silicon Valley.  He writes articles regularly for several online publications, is a subject-matter expert for two prominent finance-related sites, and is regularly quoted in articles for many other publications.

This article represents the opinions of Casey Fleming, and not necessarily those of anyone else.  This analysis was prepared with the best information available at the time it was written.  Neither Casey Fleming, nor LoanGuide.com, have any magical insider information about bond markets, real estate markets or mortgage markets that would make economic projections any more reliable than any other source.  No warranty is made that the outcome will reflect the projections in this article, and neither Casey Fleming nor LoanGuide.com. are responsible for decisions that you make regarding your own choices about your real estate or mortgage or those of your clients.

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Resources used for this article:

US Housing Supply Continues to Lag Household Formations – Realtor.com

Wall Street is buying up family homes. The rent checks are too juicy to ignore – CNN

Calculated Risk (calculatedriskblog.com)

Home prices could fall in these housing markets, says CoreLogic | Fortune

Should You Wait to See If Housing Prices Fall Before Buying? | NextAdvisor with TIME

Will Home Prices Drop in 2022? Probably Not. (businessinsider.com)

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