Relax: We’re Not Headed for Another Housing Bubble

When things are going well, it’s often human nature to wonder when it will all end — and why. The country’s current economic expansion — the third longest in American history¹ — triggers the same questions and concerns. Nothing is guaranteed in life, but it’s safe to say there’s no national recession lurking around the corner.

Although the housing market played a starring role in the last economic bust, it’s a very different landscape today. A housing glut fed by newly qualified borrowers defined the pre-recession years; chirping crickets define today’s housing supply, with for-sale inventory approaching historic lows.

New home sales still struggle

Despite evidence of high demand, it’s been a particularly uphill climb for new home sales: They are 41 percent below pre-recession (early 2000s) levels, and new home completions are 37 percent below their early 2000s levels. Some causes for the lag in new construction might be fears that another recession is looming, that borrowers are overextended or that housing markets are overvalued.

No bubble, but certain markets face higher risk

Although conditions can change at any time, there’s very likely no nationwide housing bubble on the horizon to keep you up at night. In a recent Zillow poll of more than 100 leading economists about the timing and cause of the next recession (with caveats), most said that housing would not spark the downturn, nor would it be overly impacted by a recession.

That said, regional economic downturns can still occur and hamper markets within those areas, but those localized slumps don’t typically impact the overall strength of the national economy.

Borrowers are (mostly) OK

One of the outcomes of the last recession was stricter rules around mortgage loans to mitigate lending risk. Today’s borrower is generally much better qualified than buyers in the pre-recession years, and even those who take on a lot of debt are typically on more solid ground with their personal finances.

Still, as affordability decreases in some markets, lawmakers and lenders are being pressured to increase the number of borrowers as well as the amount they can borrow — a departure from the post-recession regulations that helped ensure borrowers had sound finances. Conversations about relaxing some lending restrictions are already happening and should be monitored.

Defining “overvalued markets” is dicey

Many variables determine whether a market can be called overvalued; these include mortgage interest rates, incomes and employment trends. Although data suggests the national housing market is actually undervalued due in part to historically low interest rates, location and market segment also play a role in assessing a market’s value.

Except for seven of the 35 largest U.S. metros — San Jose, San Francisco, Portland, Miami, San Diego, Denver and Seattle — the share of income currently spent on the typical mortgage is below historic levels. Keep in mind that changes in local employment and industry trends can influence market trends in metros that fall outside the historic or national standard, which may push the share of income spent on a mortgage above historic norms.

But even though home values and affordability overall look reasonable nationwide and in most large markets, real valuation risks do exist in many market sub-segments. As of July 2017, more than half of all for-sale homes in the country (50.5 percent) fell in the upper third of price distribution — more than double the share of homes available in the bottom third (23.8 percent). Supply and demand are closer to reaching parity only at the highest price points, while demand far outstrips supply at other levels, potentially indicating a higher risk for builders.

So while there’s no housing bubble looming on the horizon, builders should be cautious while considering how to address the very real demand for housing at affordable price points.

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Source: 1. National Bureau of Economic Research, Business Cycle Dating Committee. (Since records begin in the late 1850s.)