Shiller price index

Prices in the US residential real estate market rose 19% in 2021; Is the booming US real estate market in a bubble?


Since the global financial crisis, investors have been alert to the overheating US real estate market, a sign of possible problems. Prices declined in the US residential real estate market between 2006 and 2012 and have been rising steadily since.

Price growth calculated based on the annual change in the S&P CoreLogic-Shiller Home Price Index indicates that between April 2021 and October 2021, prices increased at rates of over 15%.

Between August 2020 and August 2021, prices increased by 19%. Despite regular claims that the housing market is in a bubble, data shows it is not.

Better underwriting standards

The 2006 period saw the granting of subprime loans with hook rates, nonchalant lending standards, no down payment and no documentation. However, with the episode still fresh on the minds of investors, regulators and lenders, credit standards are much stricter today.

In addition, the period was marked by overbuilding with easy credit and soaring house prices. After the crisis, prices collapsed and residential home values ​​continued to decline over the following years.

Today the situation is completely different. The housing stock in the United States is at its lowest in 40 years with under construction of residential real estate. With a construction shortage in several regions, rising prices for land and housing construction materials, the supply of new housing may be limited.

The delay between construction and occupancy can also be a factor. With regulatory constraints on construction in several areas, the supply situation may not improve for some time.

A sign of safety for anyone worried about a bubble in the housing market is the higher lending standards. For the 2020 calendar year, the borrower’s average credit score was over 780, compared to an average credit score of 707 in 2006.

Obviously, banks don’t lend to risky customers who might get them into trouble later. Previous bubble situations have seen indiscriminate lending to segments of risky borrowers who could not repay the money they owed.

Lower mortgage rates

Falling interest rates played a role in inducing demand. Analysis by JP Morgan has shown that a one-percentage-point drop in mortgage rates increases demand for real estate assets by 10 percent.

With the Fed cutting interest rates to help the country weather the pandemic, mortgage rates had fallen by about a percentage point and demand had increased by about 9%. The savings for buyers can be quite substantial even with a half percent decrease in mortgage rates, especially for the upper segment of the residential market.

With participants forced to spend more time indoors with the work-from-home regime, the move to a larger home during a period of low mortgage rates made sense. Therefore, the current housing boom in the United States is probably not a party fueled by subprime debt like past bubble periods.

Lead buying for millennials

Contrary to popular belief that millennials don’t want to own homes, the current housing push is led by millennials and baby boomers. These millennials have turned 30, when previous generations bought their first home.

According to a report by the Wall Street newspaper, the generation accounted for 67% of the first mortgage applications in the first eight months of 2021.

While the popular narrative has always concluded that millennials don’t want to own a home, the lack of demand could have stemmed from a sluggish economy after the 2008 financial crisis, when millennials were just entering the workforce.

Price growth could slow in 2022

Freddie Mac and Fannie Mae, two major lenders, expect house price rates to rise by around 7-8% since 2022. Other models even predict a drastic drop in growth rates to 2-3. %. With the Fed looking to raise interest rates, demand is expected to return to normal levels over time as mortgage payments rise significantly.

American workers saw their wages increase in 2021, but the price of housing increased at a much higher rate. Expected growth in workers’ wages is estimated at 3.9% in 2022, lower than expected house price rates.

Plus, a potential detractor of moving to bigger homes could be the end of the work-from-home trend. Even if house price growth stalls for some time, prices would still remain higher than the pre-pandemic period.