It’s no secret that real estate prices are higher than ever, with millions of people struggling to find affordable housing. But that doesn’t necessarily mean we’re in a housing bubble – or that we’re in store for a crash in the near future.
In fact, experts are currently divided on the subject, with some economists predicting a minor housing market crash in the near future and others portending a bright future of continued real estate pricing growth.
What should you believe and why is this matter so infinitely complicated?
The Problem With Housing Bubbles
For starters, we should understand that housing bubbles are incredibly difficult to identify, unless in retrospect. What happens in an economic bubble is that the price of an asset begins to increase irrationally, beyond where it “should.”
Enthusiasm for the growth of said asset is responsible for even further growth, distancing prices from true values. At a certain point, the housing bubble peaks, and investors begin leaving the asset in hopes of realizing their gains before it’s too late. This, in turn, triggers pricing drops that create a cascade of negative investor sentiment.
Economists have their work cut out for them. They’re responsible for calculating prices and figuring out whether those prices are justified. People also ask them to try to figure out where the peak of the housing bubble will be – and if there will even be one – which is a fundamentally impossible task. It’s no wonder why there are so many conflicting opinions on the matter.
Why Sustained Growth Could Continue
There are some reasons why sustained growth in the real estate market could continue.
- The allure of real estate. Certain real estate investments, including multifamily housing, make for excellent hedges against inflation and stock market volatility. In times of economic uncertainty, like these, investors often flock to the real estate market – which means demand will continue to be sustained for the near future. Additionally, young potential home buyers are eager to get their hands on cheap real estate; they’re waiting on the sidelines to see if real estate prices drop. What they don’t realize is they represent massive aggregate demand, and high demand will keep real estate prices high.
- Lack of construction. Conversely, prices could fall if supply sufficiently increases. However, there are limited opportunities for new construction, so there aren’t many new houses entering the market at this time. It would take a massive construction effort to move the needle.
- Lack of new sellers. The supply issue could also be resolved if a sufficient number of existing homeowners decided to sell their homes. But today’s homeowners are sitting on very valuable assets and are often locked into extremely low interest rates – meaning they’re not going to be interested in selling anytime soon.
- (Relatively) low interest rates. Despite some recent increases, interest rates remain relatively low. Interest rates are a major predicting factor in the price of real estate, so the continuance of low interest rates will artificially keep prices high.
- Optimistic economic forecasts. Despite stock market volatility, our economy remains relatively healthy, and there are many indicators that economic growth will continue unabated for many years. For example, while supply chains aren’t quite back to “normal” yet, operational capacity is far higher than it was in the middle of the COVID-19 pandemic.
- Responsible lending practices. The housing crash of 2008 was caused, in part, by irresponsible lending practices. But these days, banks are operating with this harsh learned lesson in mind. Lenders are doing much more thorough due diligence to make sure they only provide loans to people who actually have the ability to pay them back.
Why the “Housing Bubble” Could Burst
However, there are also some indicators that this housing “bubble” (if you can even call it that) will burst:
- Companies are making cuts. Not all economic indicators are positive. In a conservative and cautious move, many major companies are beginning to make cuts, hoping to improve efficiency while reducing spending. If job loss becomes severe enough, it could cause people to fall behind on their mortgage payments.
- Consumers are losing confidence. Consumer confidence currently sits at a 16-month low. People are generally pessimistic about their economic futures, which could lead to fewer home purchases.
- Economic conditions could get worse. We don’t know what influential variables could be in store for us in the next few years.
We have significant historical data on the performance of the real estate market, but we have no data for conditions like these. Our current economic landscape is unlike any economic landscape that’s ever existed, so making predictions is a futile exercise.
However, we need to acknowledge that there are reasons for both optimism and pessimism – and your decisions as an investor should boil down to your personal sentiments on the matter.