“Bubble Watch” explores trends that may indicate problems in the economic and / or housing market. This time a more philosophical analysis.
Bad news: house prices in California are skyrocketing.
Good news: Values do not have to painfully drop to correct the price.
Californians left with understandable scars after the Great Recession shattered psyches, careers, checkbooks and net worth. But that doesn’t mean every time homebuyers get a little muddy – a well-documented habit in California – they have to follow sharp and rapid price declines.
The surprisingly strong house prices in an economy with pandemics felt surprising last year. It was a surge driven primarily by historically low mortgage rates that helped the balloon house hunters’ urge for larger living spaces due to the latest coronavirus lifestyle.
‘Bubble’ means the price of an asset has exceeded its underlying value. No one has clearly explained to me how housing will remain unharmed after the virus is destroyed and bargaining power disappears – even if the Federal Reserve gives many warnings, as it promises.
Note that just a 1 percentage point jump in the mortgage rates of today’s historical lows below 3% would reduce a domestic hunter’s purchasing power by about 12%.
So I thought a history lesson was okay. I filled my reliable spreadsheet with statistics on California’s home prices dating back to 1975, using a slow-moving index from the Federal Housing Finance Agency. What I discovered were three separate “corrections” – what I defined as long periods between the record highs of this index.
Yes, ‘it’s different this time’ may be true. Each of these painful periods has its own plot – from backstory to duration to the end.
1980s: Instant Solution
An inflation battle has caused a short, soft price correction over two years.
House prices in California rose 16% annually for seven years to a peak in the fall of 1981. These were turbulent times. Global instability and oil shortages caused by an Arab import of US imports help inflation up to 9% that year, which makes the housing gain, not to mention salaries, much less valuable.
Then the Federal Reserve took tough steps to curb inflation and deliberately cool the economy. Yes, central bankers often seem to play a role in real estate. Interest rates rose and the mortgage reached unprecedented heights above 18%.
But prices during this correction fell by only 11% to the bottom of the cycle – and would reach a new high in the autumn of 1983 … swallow, 13%!
1990s: Lang malaise
Weak economy has translated into a domestic ailment that has lasted most of the decade.
When the Fed stopped tying up the economy of the 1980s, the business world and housing in California were booming – although mortgage lending was never much less than 9%. The home-friendly savings and loan industry has been actively borrowing in a last-ditch effort to save itself. Prices are being raised for 7 years at an annual rate of 7 years to a record high in the summer of 1990.
Then California struggled to shake off a slight national recession. S & Ls disappeared, and the end of the Cold War reduced the state’s aviation industries. Mortgage rates fell below 7%.
But the correction of housing in the nineties is often forgotten because of the unusual pain.
A slow, winding economy meant the next record high in California housing would only be seen in the fall of 1998 – yes, eight plus years between the peaks. But during this prolonged sluggishness, the price index fell by only 13% to below the drop.
2000s: Big volley
A painful dive into the insanity of real estate meant 12 years between the peaks.
You would expect the sluggishness of the nineties to become a significant setback. There was a pent-up demand for housing. On top of that, the business climate in California has been heated by the emerging dot-com economy. Prices rose by 14% a year for eight years.
The real estate momentum seems unstoppable as prices picked up a temporary collapse of technology industries, the 9/11 terrorist attacks and a slight national recession. How? Aggressive lenders and willing lenders did really stupid things – like buying houses that could not afford much.
Correcting these horrific business practices, poor regulation and individual mistakes burst the bubble in the global Great Recession. Housing in California collapsed in a tumult that cut off 41% of the price index since the summer of 2006.
It would take 12 long years – and mortgage rates below 5% – to wipe out the losses and reach a new high in the summer of 2018. %.
Bottom line
History tells you that the pain in the House of the Great Recession was gruesome – and most likely not much parallel to the pandemic era. However, this does not mean that the overheated housing markets in 2021 will not face significant challenges.
Perhaps today’s home buying conditions are more similar to the early 1980s when the Fed tried to address a broader economic challenge and the business climate responded favorably to it. The times’ home price correction was quick and modest.
And do not ignore the 1990s as a possible pandemic guideline. That decade’s protracted economic weakness has caused a long funk for the California housing market.
Is what eight years’ valuation for zero house prices means a ‘crash’ or a ‘correction’?