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SHOW NOTES FOR EPISODE 413: WILL WE SEE ANOTHER REAL ESTATE CRASH LIKE IN 2008?
Covid-19 has changed the world but will it be responsible for creating another real estate crash like the Great Recession of 2008? In this podcast episode, Bill explores this question and others regarding the impact of the coronavirus on the real estate market today and in the near future.
Tip of the Week
Rent by the Room
- Consider converting your AirBNB or SFR homes into “rent by room” specially in high priced housing markets
- Many single people unemployed, lost jobs or have to downsize
- This came from a recent guest, Ryan Chaw, (add link) who is a full-time pharmacist who wanted to generate cashflow for financial independence and retirement
- Bought 3/2 homes for $250-350K
- These homes generally rent for $1700
- Added a 4th room – cost $1,500
- Rented them out for $640 a room or $450 each for 2 sharing a room
- $2560 in rent
- With the Colleges and Universities closed, you might be able to find other student housing for cheap
Will We See Another Real Estate Crash Like in 2008?
It’s on every real estate investor’s mind these days: Will the housing market crash again? Whether it’s a global pandemic, a credit crisis, or an oversupply situation, a healthy housing market will always go through cycles: recovery, expansion, hyper supply, and recession.
Despite dire predictions, we are unlikely to see a housing market crash similar to that of the 2008 housing bubble. Those were different times, and the economic factors resulting in that housing crash were much different than today. Here’s an overview of how to think about a potential housing market crash, the factors that affect real estate cycles, and how real estate investors can position themselves during recessionary times.
Indicators of a Housing Market Slowdown
Recessions are inevitable whether we like it or not. The question isn’t if, but when. It’s highly likely we are in the early stages of a recession resulting from the ongoing COVID-19 pandemic. But how can we tell if a recession will lead to a housing crash? These are some of the key indicators we should keep top of mind:
- Incomes: When income growth slows and unemployment rises, this puts downward pressure on housing as buyers can afford less, leading to lower home prices.
- Housing prices: A housing market slowdown is usually preceded by a period of extended home price growth. The more home prices outpace inflation and incomes, the bigger the strain placed on housing markets.
- Subprime lending: Risky lending practices are what led to the 2008 housing bubble. Many call it a housing crisis, but housing was never the problem; risky credit practices by lenders were.
- Sales: Home sales begin to slow or drop significantly, indicating buyer sentiment is turning negative.
- Hyper supply: This is the third housing market cycle that precedes a recession and is characterized by increased construction, oversupply, and higher vacancy rates.
Will the Housing Market Crash Again?
The key housing correction indicators listed above don’t all need to be present for a real estate crash. Nor is one more important than the other as it all depends on the severity of each indicator. I really hate saying this, but it always depends.
The current real estate market in the U.S. can only be discussed in general terms, and each indicator above should be applied individually to an investor’s local market. That said, here are some general observations about the state of the U.S. real estate market, keeping the above factors in mind.
Incomes and Debt
Household debt has not increased dramatically from where it was during the Great Recession. According to the New York Federal Reserve, household debt in the first quarter of 2008 sat at $12 trillion. In the first quarter of 2020, that number was $14 trillion. Incomes are also slightly higher now than in 2008. According to the Census Bureau, median household income in 2019 was $63,179, whereas in 2008 incomes averaged at $58,811.
Housing Prices
According to the St. Louis Federal Reserve, the median sales price of homes in 2007 was $257,400. In the first quarter of 2020, the median sales price was $327,100. Given that we’ve seen some income growth, and accounting for inflation, this difference in median sales prices doesn’t appear to be that significant.
In most cities, we’ve seen an extended period of seller’s markets marked by housing price gains and low supply. Moving ahead, we may see a shift to more buyer’s markets as housing prices cool. As mortgage rates stay low, we may see a continued appetite among homebuyers over the short term.
Lending and Mortgages
Following the Great Recession, we saw a significant change in underwriting policies by all major banks. Credit checks and reasonable loan to value (LTV) ratios are now common practice among mortgage lenders.
That said, subprime mortgages are beginning to increase, but not at the level they were prior to 2008. Now termed “nonprime mortgages,” these riskier loans include interest-only and adjustable-rate mortgages. They are classified as riskier due to their exposure to interest rate fluctuations and lack of equity buildup.
Sales
Sales volume is not the same now as it was in 2008. According to Statistica, home sales in 2006, 2007, and 2008 were 6 million, 5 million, and 4 million yearly properties sold, respectively. This was a sharp decrease leading up to the credit crisis. In 2017, 2018, and 2019, those yearly sales volume numbers were an even 5 million over each year respectively.
Supply
Typically calculated monthly, housing supply is the ratio of that month’s houses for sale compared to houses sold. At the height of the 2008 credit crisis, we saw a supply ratio of 9, even topping 12 months supply of homes for sale to homes sold. As of March 2020, that ratio stood at 6.
Although there are individual recessionary indicators for a potential housing market correction in 2020, we are a far cry from 2008.
Can the Housing Market Withstand the Coronavirus?
And then came the global pandemic. We voluntarily turned off our global economy and battened down the hatches for a few months. Unemployment skyrocketed to historic levels, which led many to predict that rental housing was in for a reckoning.
According to the National Multifamily Housing Council (NMHC), 91% of all renters paid their monthly rent as of April 26, 2020. For April 2019, the rental payment rate stood at 95%. Although a significant income reduction in total dollar figure, this is (as of May 8, 2020) far from a housing crash scenario.
The housing crash in 2008 was a credit crisis, of which housing was one of the hardest-hit sectors. It’s different today. We are dealing with a much different recession, and as noted above, we have limited housing supply across most housing markets to begin with. Limited housing supply coupled with healthy demand will keep the current housing market buoyed.
Outside of any further disruption of our way of life due to the effects of a global pandemic, the forthcoming recession will be much different than in 2008. So can the housing market withstand COVID-19? Absolutely.
How to Prepare for a Potential Housing Market Crash
Timing the market is not a long-term real estate investment strategy. It’s a gamble. It can pay off, but it’s certainly not a strategy.
Whether or not we see a housing crash similar to the 2008 credit crisis, there are best practices real estate investors should consider to prepare themselves and their businesses.
- Don’t over-leverage: This can put any business in a difficult situation should there be a drop in real estate prices. If you have maxed out all your debt, then there’s no breathing room should you need to access equity or refinance your assets.
- Keep some liquidity: Access to capital is king during crash situations. Not only is this a lifeline should you need it to keep your business afloat, but it also gives investors more flexibility to be opportunistic in a down market.
- Focus on tenants: After all, they are your customers. Communicate regularly with your tenants, give them resources should they fall on hard times, and build a strong and trustworthy foundation to your mutual relationship.
The Bottom Line
Will the housing market crash again? In looking at 2019 recession signals for housing, the St. Louis Federal Reserve stated that “it’s noteworthy that several indicators of housing-sector momentum currently line up reasonably well with patterns seen before the past three recessions.”
That said, we are a far cry from seeing the flashing red signals from the 2008 credit crisis specifically as it relates to real estate. That may be because this economic downturn is different, as it’s a voluntary shutdown of our economy to deal with a global health crisis, rather than a credit and lending time bomb.
So the answer is: maybe. Housing will certainly be affected by the current economic troubles; however, the symptoms and characteristics of a potential forthcoming housing crash are very different today than in 2008. The bottom line for investors is that if you prepare yourself for each market cycle, including recessionary ones, you can weather the storm and even find opportunities.
Thank you to The Motley Fool for the material in this podcast.
DISCLAIMER: Many of the above strategies take knowledge and have a higher degree of risk. You need to do your research and/or work with someone who is experienced to reduce your risk.
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