If they haven’t done so already, articles about the doomsday of real estate will increase in volume.You will hear that we are about to experience the second largest housing crash since Great Depression.All of it will be negative, scary, and cause panic. You’ll think it’s all 2008 again.Except, it’s not. It won’t be either. This latest housing correction, or downturn, was manufactured by Fed.It was the same Fed who orchestrated housing boom that preceded this one. It’s likely to be short-lived, and nothing like the Great Recession.
Why are home prices falling?
Let’s first discuss why home prices have begun to stagnate, and, gasp!, even drop.The home price increase was out of control in the last couple of years, since the pandemic began. Prices have increased by 50%.The combination of a limited supply and cheap money (i.e. record-low mortgage rates) and the desire to own a home have pushed up prices.The price of homes not only reached all-time records, but also monthly and annual gains.Property values were consistently increasing by double digits, and we knew that this couldn’t last.Fed decided to put the brakes on when they saw that this was happening. The found recent price increases were not due to a shortage of homes, but rather by excessive demand.They knew that by raising their own interest rates (Fed Funds Rate) they would increase mortgage rates.
They may not have anticipated how quickly they would rise, but the mission was accomplished.After months of slowing upswing, the nominal price is now actually declining.Other words, the price will be lower than it was the previous month, and then the year prior.
How much will home prices drop?
Next, we need to know how much the home prices will drop. It is important to distinguish between nominal and real prices. Real prices are adjusted for inflation.It is particularly important with the current inflation rate of 8%+.High mortgage rates by themselves do not necessarily reduce home prices. However, when you add in an increase in unemployment they do.Susan Wachter of Wharton University says that home prices have never dropped without “a substantial increase in unemployment” other than during Great Recession.The mortgages that were underwritten during the Great Recession were total garbage.There are many types of mortgages, including the option ARM, stated-income and 100% financing.Mortgages are still the same old boring 30-year fixed-rate mortgages. The majority of home owners with these mortgages have ridiculously low rates. We’re talking 2-4%. The rate is set to remain the same until 2050.
They don’t care about “home prices going down”, because they will continue to pay their low monthly mortgage payments, and wait for the price of their home to rise.If they lose their job, they can rent their property out or sell it for a profit and still be cash flow positive.A combination of increased mortgage rates, an increase in unemployment and a recession will likely cause nominal home prices to fall.How much lower can it go? Home prices are likely to fall only 5-10% if you listen to Wells Fargo’s economists.When you consider how much the prices have risen since 2020, this is a mere drop in the ocean.In 2020, the median price of an existing home was $300,000. By 2021 it rose to $357,000. And by this year, it is expected to reach $385,000.The price is forecast to drop to $364,00 in 2023. This represents a 5.5% decrease. The headlines are likely to be gloomy because nominal home prices rarely fall.Technically, it will be the second-worst drop in home values since the Great Depression in the 1920s/1930s. The media will be keen to highlight this.Doesn’t that sound awful? It will actually be worse, with the dollar being eroded by inflation and real prices dropping even more.The real home price could drop by as much as 25 percent, which is a pretty big fall, but it would also put us back in the year 2020.
Home prices could bounce back as soon as 2024
I’ve been circling 2024 for the next crash in the housing market. Or at least, the peak. It seems to be a little earlier than expected.Even with the recent excesses, it’s still not far away.It would have been simple to predict a housing peak a few or more years ago. It kept on rising.All the big pundits agree that home prices are going to fall. Real home prices will also fall due to inflation.When will they be able to recover? Or will they stop falling? Bill McBride, over at Calculated risk , sees home prices dropping +/-25% in the next five to 7 years. Much of this is due to inflation.As noted, there is still a possibility of a nominal price decrease between 5-10%. As mentioned above, 5-10% is not much considering that home prices have effectively doubled over the past years.McBride, however, sees the recovery taking longer than Wells Fargo’s, but not by much. There will be no “cascading” price declines like those seen during the Great Recession.He notes that at that time “nominal prices in Las Vegas fell by 62%, in Phoenix 56%, and in Miami 51%.”He does not see it this time, mainly because the supply is low, the underwriting is solid, and distressed sales are unlikely to be a major factor.Wells Fargo expects an even faster recovery due to future Fed rate reductions.Mortgage rates will follow, which should allow for a “modest improvement in sales activity” once these changes are made.The median price of existing homes could rise to $376,000.