What on Earth is Going On with the Housing Market?

Hey everyone, and welcome back to The Long Run. I’m back in New York now following a chaotic period of moving and summer travel. After years of wondering what all the NYC hype was about and not believing any of it, I can confidently say I was wrong. I get it now — this place does not disappoint. Ask me again how I feel in 6 months and we’ll see if it’s the same story.

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Let’s hop into it.

For anyone looking to buy or rent a place to live at the moment (which is most of us who don’t own a house), you probably have noticed that there are some weird things going on in the housing market right now.

There was a historic run-up in benchmark interest rates over the last 3 years, which led to higher mortgage rates (h/t Jay Powell). Mortgage rates are now hovering around 7% — the average 30-year fixed rate is 6.8%, more than double its lowest during the pandemic.

A lot of people were saying this rapid rise in rates would trigger a bear market in housing, but the tiny dip in prices we did see in the latter half of 2022 was possibly the shortest housing bear market (if you can even call it that) on record.

We’ve seen a slowdown in the number of houses changing ownership (which we’ll get to shortly), yet homebuilder stocks are at all-time highs.

Homeowners are holding onto homes financed at low rates, squeezing the supply of homes, and keeping prices up.

As a result, for the first time in recent history, old houses are pricier than new ones. The median new home price in June was $415,400, compared to $416,000 for existing homes.

People who already own homes either bought them at low rates or refinanced them at low rates and are now asking themselves, “Why sell when I have this great mortgage rate and get stuck with a new one at a much higher rate on my next home?”

During the pandemic, many people relocated and bought homes at extremely low mortgage rates.

During the pandemic, everyone was talking about “remote work” and “The Great Exodus” away from big cities into tier 2 cities or smaller towns.

The timing was perfect for buying a new home at low rates, but the reality is that this shift was not as permanent as many had hoped. Now, it seems like remote work has all but peaked (offices are back, if at the very least for a few days a week).

So we had an influx of homebuyers at the bottom of the rate cycle, a large wave of people who have just settled into their new homes in the last 2 years, and now median home prices of existing homes are higher than new homes, and housing construction is recovering from its decline last year.

Put it all together, and there’s a shortage of pre-owned homes on the market, but no shortage of aspiring new homeowners (despite higher rates), leaving us stuck at this housing price peak.

In sum, the bear market everyone predicted did not happen.

As Joe Weisenthal pointed out on the Odd Lots podcast, a pre-existing condition of a housing crisis is often "forced sellers” (typically driven by unemployment), which we just haven’t really seen play out.

Note that the national unemployment rate (though not a perfect measure) is approaching pre-pandemic lows.

The natural next question to ask would be, “Well, what if we do see a rise in unemployment and people stop being able to meet their monthly mortgage or rent payments?” Would that preclude a foreclosure crisis?

Consumer spending has slowed over the past few months, likely in large part due to rising mortgage rates eating up a larger part of people’s monthly budget.

Additionally, consumer debt is trending upward generally (i.e. auto loans, credit card debt, and the upcoming end of the student loan pause on September 1st).

On the renting side of the equation, rent prices are higher than ever, and (although price growth slowed ever so slightly in the last few months) prices are still growing 8% annually, growth rates not seen since the 1980s.

But what if instead of just looking at rent prices alone, we look at the Price-to-Rent ratio, which compares the nominal house price index to the rent price index (and sort of tells how renting compares to buying).

It too has declined slightly over the last few months, but it also peaked in the summer of last year, so is still quite high.

All of these trends together would point towards a potential foreclosure crisis, but when we zoom into a specific segment of the population — the Baby Boomers — it tells a different story.

Boomers are doing pretty well

The majority of the Baby Boomer population is either already retired or retiring soon, they’re living longer, they wield a lot of power (nearly half of lawmakers in Congress are Baby Boomers, despite making up just 21% of the U.S. population), they are incredibly wealthy (as we noted previously), and they are the most likely to own homes.

About 1/3 of homes in the US are owned by people over 65. Of those homes, half of them were bought before the year 2000.

Those old homes are definitely not going to be foreclosed on because most of them no longer even have mortgages open.

And at a time where millennials (currently ages 27 to 42) are starting families and looking to buy new homes? Well, good luck.

Taking all of this into consideration, as someone who doesn’t own a home and is turned off by high home prices and expensive rates, is putting your money into an investment rental property a better move? Or is it better to just put that excess cash into an index fund and let compounding work its wonders?

The allure of real estate investment rentals

Lately, I’ve heard a lot of people discussing investing in real estate as a good investment opportunity to generate passive cash flow. We see Twitter accounts of people like The FI Couple talking all the time about how their rental income has grown over the last few years.

At first glance, this looks like a no-brainer. But the “income” they’re referring to is before costs.

When pressed about how much they make after costs (paying their debt, utilities, and other expenses), the story looks a bit different.

And these, of course, are just the direct financial costs. Owning real estate also comes with the headaches of vacancy, tenant complaints, missed or late payments, things breaking, landscaping, and other generally unforeseen hassles.

Speaking of risks we don’t think about:

The other side to this argument is that, yes, when owning real estate, after you cover your monthly costs (including debt repayment), you’re building equity over time in an asset that you own.

But, as Nick Maggiulli points out, there is no so such thing as a free lunch. As the expected return of your investment increases, there is generally an increased level of “hassle” or headache associated with that increased return.

As is nearly always the case, any investment with high expected returns requires additional time, effort, and risk-taking — these are the tradeoffs you’re making when you invest in real estate.

All things considered, it’s not on us to judge what someone else does with their time and money. Deciding which hassles are worth dealing with and which games are worth playing is ultimately a personal decision.

However, when everyone is talking about a specific investment opportunity that generates guaranteed excess market returns, that should be a sign of caution — chances are it’s not as good as it seems.

I don’t have all the answers, and this is not investment advice, but my hunch would be that if we’re ever unsure and not interested in the extra hassle of a specific investment idea, our best bet is to just automate — recognize we don’t have a special edge over people who invest for a living, buy the market through an index fund, and let compounding work its wonders over time.

The reality is much more nuanced. We are becoming a nation of many incredibly different submarkets, especially as it relates to housing. Market dynamics in New York City versus San Francisco versus rural Mississippi all probably tell strikingly different stories. Similarly, single family homes versus apartments versus multi-family rentals likely all display different trends, as well.

It’s too difficult to look at aggregate national indexes and generalize those to say, “this is the story across the entire country.” But then again, that’s true for most things — there’s always more to the story than meets the eye.

-Owen

Fresh Finds

Trophy Jobs (Anu Atluru)

Article | 5 minutes

Thought this article by Anu was interesting — she talks about how work is such a major part of our lives, yet many of us choose to pursue jobs not for ourselves, but for the admiration of others (status) or “what that job says about us,” rather than our intrinsic enjoyment and experience doing the job (substance). Jobs with a high status-to-substance ratio are likely what she calls “Trophy Jobs,” where our desire to do the job decreases when the associated status with it decreases. One question I’ve always thought about when going through career decisions is “Would I do this job if I couldn’t tell anyone about it?”

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