Homebuyers are faced with a difficult choice during the pandemic: to swallow the rapid rise in prices and, or risk staying out of the real estate market. This dynamic has raised doubts among some observers as to whether the U.S. is repeating the housing bubble in the early 2000s, leading to a painful housing collapse in 2006 and a major recession the following year.
The answer, warns the Federal Reserve Bank of Dallas, is that the real estate market is showing “signs of a bubble on housing in the United States.”
This can be alarming for millions of potential home buyers who are coping with countless points of financial pressure. First, mortgage rates, reaching an average of 4.67% for a fixed 30-year loan for the week ended March 31, is the highest since 2018, according to Freddie Mack. And the national median house price jumped to a record $ 405,000, Realtor.com reported on March 31.
Home buying jumped during the pandemic due to overlapping trends. First, millennials now represent the largest generation in the U.S. and have moved into the early years of buying a home. And the pandemic has forced millions of people to work from home, forcing some to move out of cities or seek more housing to cope with the reality of remote work. The usual cost of housing has jumped by almost 27% over the past two years, according to Realtor.com.
Of course, the rapid rise in housing prices does not necessarily signal a bubble, said Dallas Fed economists.
“But real house prices may differ from the basic market indicators, if there is a widespread belief that today’s sharp rise in prices will continue,” – they said. “If many buyers share this belief, purchases that arise because of the ‘fear of missing out’ can raise prices and raise expectations of a sharp rise in house prices.”
Meanwhile, more and more home buyers are choosing adjustable-rate or ARM mortgages because these loans offer a lower initial rate for a number of years but are then adjusted annually at higher rates. According to real estate company Inman, demand for weapons has jumped 26% compared to a year earlier. The current rate for the 5/1 ARM (at an initial rate of five years) is 3.5%.
To study whether the current dynamics could reflect a bubble, Dallas Fed economists dug up three different market indicators. Their conclusion: there are signs of a “turning point in the market.”
First, economists looked at a statistical model that tracks “wealth” or when prices rise exponentially, which cannot be justified by economic fundamentals. When their affluence rate reaches the 95% threshold, it indicates 95% confidence that the market is experiencing “abnormal explosive behavior,” they noted.
Current wealth: 115%.
Next, economists looked at another indicator: the comparison of house prices with the amount of reduced future rents. This is similar to how investors determine the value of stocks, looking at reduced future dividends, economists said.
It also demonstrates wealth that is “comparable to the onset of the latest construction boom,” they said.
Third, analysts studied the ratio of housing prices and disposable income, another indicator of housing affordability. This has not risen to the level of wealth, but economists have noted that household disposable income was boosted during the pandemic by checking incentives as well as reducing household spending due to blockages – in other words, transition factors.
Daniel Hale, chief economist at Realtor.com, said that although current house price growth has been volatile, it is difficult to predict when price growth will slow.
“The double-digit rise in prices and rent increases cannot go on forever,” she said.
Hale said raising mortgage rates, which makes housing less affordable, should somewhat slow the rise in prices. “When mortgage rates fell, it helped mitigate high housing costs because people had lower monthly payments. Now rates are moving in the opposite direction and this increases monthly costs. That means prices can’t keep up with double-digit growth.” she said.
The FOMO wave is a cause for concern
Economists say there are some differences between 2022 and the peak of real estate in 2006, which hit the global financial crisis, which took years.
First, household finances are in better shape than in 2006, and the type of easy-secured loan that spurred this housing boom is a thing of the past. At the time, some banks issued so-called “lie loans,” or mortgages that required virtually no income document. Today, banks require buyers to confirm their income to qualify for a loan.
But something else is happening that economists have noted as alarming: “A wave of wealth that is afraid to miss, involving new investors and more aggressive speculation among existing investors.”
According to them, the consequences of the correction of housing construction from the current real estate boom will not be similar to the financial crisis of 2007-2009. But for some recent homeowners the fix can still be painful.
Irina Ivanova from CBS News spoke in the report.