Are We Nearing Another Real Estate Bubble?

Housing_Bubble_articleThe “bubble” word has reentered the real estate conversation and with it, much worried comparison between current market conditions and those of the mid-2000s housing bubble.

It’s easy to see why the word has been resuscitated: thanks to low inventory levels coupled with burgeoning buyer demand, many markets are indeed becoming frothy. Bidding wars have erupted in the most desirable neighborhoods and some buyers have started adopting pre-2007 tricks to win those face-offs including worrisome non-contingent offers at full asking price or higher.

Last week, the National Association of Realtors (NAR) released their Existing Home Sales Report. The report announced that the median existing-home price in June surpassed the peak median sales price set in July 2006. This revelation created many headlines in the Wall Street Journal and USA Today exclaiming that home prices had hit a “new record”.

Does this mean we have another problem on our hands? Not really… Even after adjusting for inflation, median prices aren’t a great barometer because they can be distorted by the “mix” of what’s selling. In 2009, for example, median prices plunged in part because an unusually large share of homes were selling out of foreclosure. Bank-owned homes tended to cluster at lower price points both because they weren’t as well maintained and mortgage companies were motivated to sell quickly to cut any losses. Prices were already falling, of course, but looking at changes in median prices probably overstated the rate of decline. There may be other reasons to worry abo ut housing affordability by comparing prices with incomes or prices with rents for a given market. But crude comparisons of nominal home prices with their 2006 and 2007 levels shouldn’t be used to make claims about a new bubble.

But before we start worrying about unsustainable home prices and the future bubble they could inflate, let’s take a look at several factors emerging now that will likely make that worrisome run-up in home prices slow down in coming months.

  1. Inventory Levels Won’t Stay Tight – As prices increase more owners become right-sided on their mortgages, a financial factor that enables them to more easily list and sell their homes. Confidence among prospective sellers is rising, with 40% of Americans believing now is a good time to sell, according to a Fannie Mae survey
  2. The Mix Of Homes Is Changing – Both that dwindling supply and the subsequent rise in prices have led to a decrease in distressed sales. Simultaneously, as distressed activity ebbs, luxury sales have surged, also pushing median prices higher.
  3. Mortgage Rates Are Rising – While those rising rates will do little to actually derail housing’s recovery, they will put downward pressure on the dramatic run-up in home prices.

Bottom line, home values are appreciating. However, they are not increasing at a rate that we should have fears of a new housing bubble around the corner.