Is there a bubble in the real estate market?
Key Takeaways
Rising home prices have many worried about a real estate bubble like 2007.
While rising home prices may look a lot like 2007 on the surface, the circumstances driving home prices higher today are different and don’t resemble a bubble many are worried about.
If you know anyone who is in the market for a home, then you have likely heard anecdotes on how they were outbid multiple times with offers higher than the asking price. Home prices across the nation have soared over the past year. This rapid increase has unsurprisingly raised concerns of another housing bubble. In 2007, a housing bubble propped up by low-quality mortgages burst and led to a financial crisis and a global recession. So, are we in for a repeat?
The circumstances driving prices higher today are different than 2007. A closer look may help understand the fundamentals of today’s real estate boom.
Low mortgage and high savings rates have improved home affordability: While this may be shocking, despite higher home prices, housing affordability has risen with record low mortgage rates. The trend in the 30-year mortgage rate is remarkable from a record high rate of 18.6% in 1981, to roughly 6.5% in 2007, to below 3% in 2021.¹ Lower mortgage rates reduce the percent of one’s income being spent on a mortgage payment and can improve affordability.
In addition to low interest rates, consumers benefited from an increase in savings. Some U.S. consumers are flush with cash right now because they were unable to spend on typical purchases during the shutdown. In addition, Congress supplied the economy with trillions of dollars in fiscal support. While the pandemic did lead to financial devastation for many and fiscal support partially or fully replaced lost income, not everyone was impacted. Many consumers remained employed and collected additional financial support during a turbulent time for all. This historic environment contributed to an excess savings buffer of $2.5 trillion.² Add to that the incredible rise in the stock market driving investment accounts higher, as well.
Source: Forbes, Freddy Mac, US Census Bureau
With historic low mortgage rates, higher savings and larger investment accounts, consumers have more to spend on mortgage payments. The chart above shows, despite a sharp increase in median home prices, mortgage payments as a percent of household income has become more affordable.³ This remains in sharp contrast to 2007.
Homebuyers are in better financial health: In 2007, stories of no-income, no-down payment, no-verification mortgages were common. Today, banks have adopted higher lending standards. A simple way to see this is in the percent of mortgages issued today to consumers with high credit scores (greater than 760). Unlike 2007, where people with low credit scores (below 660) were granted more new mortgages than people with high credit scores, today 73% of mortgages issued in the first quarter of 2021 went to consumers with high credit scores.⁴
Housing supply remains constrained: The inventory of homes for sale fell dramatically after 2007⁵ and has not kept up with demand. A few of the most common reasons for low inventory are the lack of property developers, shortages in construction labor, increased cost for raw materials and increased regulations. High demand and low supply have driven prices even higher.
Source: FRED, US Census Bureau
While rising home prices may look a lot like 2007 on the surface, the underlying fundamentals are different from back then. Despite this, many will still be frustrated as high home prices have priced out many buyers. Home prices have risen due to a confluence of record low mortgage rates, increased savings, improved affordability, and low housing inventory. Pair that with healthier lending standards and these fundamentals don’t resemble a bubble many are worried about.
[1] FRED - 30-Year Fixed Rate Mortgage Average in the United States
[2] Blackrock - Systematic Fixed Income Outlook: Tempting FAIT
[3] Forbes - 3 Reasons Why the Real Estate Market Is Not a Bubble
[4] A Wealth of Common Sense - The Biggest Differences Between Now and the Housing Bubble
[5] FRED - New Privately-Owned Housing Units Started: Single-Family Units
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