Any period of economic uncertainty can make a major financial decision — like buying a house — more stressful.
While the housing market on a national scale has seen prices decline since the all-time highs of mid-2022 amid high interest rates, experts are noting that a sudden and abrupt housing market crash is unlikely, based on current market conditions.
Housing demand and supply, mortgage interest rates and unemployment all play roles in how the real estate market fares. Currently they indicate a period of decline in some markets and growth in others, and a decline in transactions compared to recent years overall — but certainly not as significant a decline as seen in the housing market crash of 2008-2009.
A recession would put stress on the housing market, and experts predict one in the near future. To avoid rippling impacts in housing, there may be a tightening of mortgage lending practices, but homeowners with existing mortgages are still considered stable, and many of them remain uninterested in leaving their homes in the near future.
Here’s what you should know about the housing market now and the indicators that can show if we’re headed for a crash:
— Are we in a housing bubble?
— Prices can decline without a crash.
— What’s different from the 2008 housing market crash?
— Should I be concerned about bank and lender insolvency?
— Building permits are on their way up.
— How does a recession impact the housing market?
— What conditions could lead to a housing market crash?
Are We in a Housing Bubble?
In economics, a bubble is defined as a period of rapid market value growth of an asset — in this case, homes.
Considering the fast pace of the housing market that lasted roughly the length of the COVID-19 pandemic, rapid market value growth accurately describes the housing market up until about midway through 2022. Home price growth was in the double digits year over year every month from August 2020 thru mid-July 2022, based on home sale price data from Redfin.
Signs of a growing housing bubble slowed throughout the rest of 2022 and into the first weeks of 2023, however, as home prices continued to decline month over month during that time.
Now, median home prices have crossed the threshold again with minor year-over-year increases: The median home price in the U.S. between June 19 and July 16 was $383,000, the same median price as the month prior and a 2% increase compared with the same time period in 2022, according to Redfin.
With that in mind, the U.S. housing market is not currently experiencing a rapid increase in home prices that indicates a growing housing bubble, but the bubble that has formed in recent years may be seeing some mild correction.
If recession comes in the latter half of 2023 as many experts predict, a renewed drop in demand leading to additional decline in home prices could see prices drop a bit more than they did in the first half of the year.
“Could a little air be let out of that bubble? Perhaps,” says Mike Reynolds, vice president of investment strategy at Glenmede, a Philadelphia-based wealth management firm.
Reynolds notes that current conditions and shortage of housing availability in general indicates that it’s unlikely, at least at this time, that recession would result in a bubble burst or sudden home price plummet.
Home Prices Can Decline Without a Housing Crash
While any drop in home prices may feel like the last thing a home seller would want, a slight market correction could help better align prices with what homebuyers — including sellers looking for their next home — can afford.
A major challenge to that affordability threshold right now is the increase in mortgage interest rates that began in mid-2022. While mortgage rates are technically independent of the federal funds target rate set by the Federal Reserve, they often increase or decrease as a result of the Fed’s actions. The federal funds target rate has been raised repeatedly in the last year in a marked effort to curb inflation. The Fed most recently opted not to raise the target rate in mid-June, though at least two more rate hikes are expected before the end of the year.
The average 30-year, fixed-rate mortgage interest rate reached more than 7% in October and November 2022 but dropped close to 6% in January. The average interest rate has shown some volatility since March, climbing toward 7% again, then dropping back down and going up again. The average rate for a 30-year, fixed-rate mortgage as of July 20 is 6.78%, according to Freddie Mac.
With many homeowners who purchased or refinanced between 2020 and mid-2022 locked into a mortgage interest rate somewhere around 3%, moving becomes downright unattractive.
“Low inventory is going to be a problem for a while, because if homeowners don’t have to sell, the data suggests that they won’t,” says Danielle Hale, chief economist for Realtor.com.
The decrease in the number of home sales since interest rates initially rose in 2022 is stark. From June 19 through July 16, there were nearly 17% fewer homes sold compared with the same time last year, according to Redfin data.
But the ability for homeowners now to wait out economic uncertainty — and climbing interest rates — may be what keeps any drop in home prices from becoming more concerning.
About 34.5% of real estate investors expect home prices to remain approximately the same over the course of the next six months, according to the results of the spring 2023 Investor Sentiment Survey from private, direct lender RCN Capital and market and business intelligence advisory firm CJ Patrick Company. An additional 34.5% of respondents expect home prices to rise by less than 5%.
The easing of mortgage rates in late March and early April encouraged some buyers to come back to the market, and they continued to return in the traditional spring homebuyer season. Orphe Divounguy, senior economist for Zillow, reports that many buyers seem to have adjusted to higher mortgage rates, and the spring homebuying season saw a spike in activity like usual. But home sellers have stayed away.
“That means that buyers are absorbing all of the current inventory and inventory remains at an all-time low,” Divounguy says.
As a result, the number of homes going under contract is still down compared with the same time in 2022, but it’s getting closer to even. Zillow reports that newly pending listings were down 16.4% in June compared with June 2022.
The higher interest rates of more recent weeks have also contributed to a typical mid-to-late summer slump. An average rate close to 7% “hasn’t really helped the summer real estate market — neither has the heat,” says Melissa Cohn, regional vice president of William Raveis Mortgage in New York. “Mortgage rates are certainly not in a place right now to reinvigorate the housing market.”
Additional economic uncertainty could lead more buyers to once again back away from house hunting and sellers to stay put. Year-over-year home prices may continue to decline in that case, but likely on a fairly small scale and without the threat of a crash.
What’s Different From the 2008 Housing Market Crash?
Homeownership can feel scary during any point of economic uncertainty — especially if you have a vivid memory of the Great Recession and the housing market crash of 2008 and 2009.
“The 2008 housing crash that they think about was due to the overextension of loans to people that were not solid borrowers,” says Kimberly Jay, licensed associate real estate broker at Compass in Manhattan.
Predatory lending practices in the first years of the 21st century meant many homeowners faced foreclosure when adjustable interest rates rose, and unemployment further increased the number of properties in foreclosure.
Housing demand was artificially propped up by issuing mortgages to people who weren’t in good financial places to buy and maintain homes, and the economic downturn also meant buyer demand plummeted. Home values declined significantly as a result.
The current situation is very different compared with the Great Recession, Reynolds explains. “We don’t see a lot in the way of excess this time around,” he says.
Another major difference between today’s market and the housing crash is the issue of supply — excessive building leading up to 2008 meant that when demand dropped, there were entire housing developments that sat vacant.
Cut to 2023, and housing is still catching up on the low rate of building compared to household formation since the Great Recession.
With today’s homeowners, laws and regulations are in place to prevent predatory lending since the Great Recession. Even as high home prices and rising interest rates have increased the total cost to buy a home, making homeownership unaffordable for otherwise would-be homebuyers, there are still more qualified buyers searching for homes than there are properties for sale.
With all these factors combined, Reynolds says a crash, at this point, is unlikely even with a recession expected in the future. However, he also notes that a recession can also reveal instabilities or assessment errors that weren’t apparent prior to a drop in gross domestic product. As a result, economists and strategists have to be ready for a couple of surprises once recession does occur.
“That’s kind of an unknown that sits out there that could move the needle a little,” Reynolds says.
Should I Be Concerned About Bank and Lender Insolvency?
In March and May, Silicon Valley Bank, First Signature Bank and First Republic Bank became insolvent following runs on the banks. Primarily, these regional banks were focused on a limited customer focus — in particular, tech companies located in Silicon Valley.
As a result, these bank failures are fairly limited, and to this point have been unlikely to impact individual homebuyers seeking a mortgage.
However, another bank-related issue may be worth paying attention to that is more closely related to the housing market.
“We have to pay attention to the commercial lending crisis that’s unfolding,” Cohn says. “That could take more banks down. Vacancy rates are so crazily high, people are not going back to work in the offices.”
The National Association of Realtors reports the vacancy rate for office space reached a record high of 13.1% in the first half of the year, while retail space performed a bit better at 4.2% and industrial space reached 4.7%.
With high vacancy rates across the country, the likelihood for commercial property owners to default on their mortgages rises. Cohn points out that some are already in default, and next year could see the number increase sharply.
Defaulting commercial mortgages could put stress on lenders, and “I think it’ll have a big impact on some of our regional banks,” Cohn says. While not all lenders deal in both commercial and residential property, many do both, and it’s possible for lenders to continue to increase their mortgage rates in an effort to simply see fewer borrowing requests.
Building Permits Are Down — But Housing Demand Isn’t
As of May, the U.S. Census Bureau’s Building Permits Survey reports there were 88,900 single-family building permits filed in the U.S. (unadjusted), continuing a general upward trajectory since permits reached a near seven-year low in December 2022. The permits in May were also well above the forecast of 71,440 permits predicted for that month in the U.S. News Housing Market Index.
For perspective, after the housing bubble burst in 2008, building permits for single-family detached homes cratered to a low of 22,100 in January 2009.
Builder sentiment, while low compared to 2021, has risen steadily in recent months to 56 out of 100 as of June 2023, according to the National Association of Homebuilders and Wells Fargo Housing Market Index.
In comparison, builder confidence reached a whopping 84 in December 2021, and was as low as 31 in December 2022. Builder sentiment is based on the number of new single-family homes, predicted single-family homes in the next six months and overall traffic of buyers.
“New construction is down from its pandemic era peak, but builders are still working and trying to fill in the gaps that existed,” Hale says.
How Does a Recession Typically Impact the Housing Market?
At least two consecutive quarters of negative GDP growth make a recession, and it’s typically accompanied by an increase in unemployment and decrease in consumption by the general public.
The financial strain individuals face during a recession leads to a slowdown in the housing market — homebuyers may pause their search if they’re worried about layoffs, and there may be an increase in foreclosure activity while higher unemployment increases the number of people who can’t pay their mortgages.
However, once activity on the housing market slows enough, mortgage interest rates drop to a point where buyers reenter the market, interested in getting a good deal. Unlike in the Great Recession, an increase in housing market activity helps bring the economy out of recession.
The real GDP increased in the last two quarters — by 2.6% in the fourth quarter of 2022 and 2% in the first quarter of 2023, according to the Bureau of Economic Analysis. The Federal Reserve Bank of Atlanta reports that the GDPNow estimate for real GDP growth in the second quarter of 2023 is 2.4%, as of July 19, though that estimate is subject to change.
Unemployment has largely remained low, at 3.6% in June, according to the Bureau of Labor Statistics.
While these indicators show no recession right now, most experts agree that a recession is likely in 2023, particularly as the Federal Reserve works to slow the economy to reduce inflation.
Divounguy expects the economy to cool between now and the end of the year. “If that does happen, mortgage rates will tick down and we should see a pretty strong housing rebound in 2024 — in spring 2024,” he says.
The severity of a recession could impact how much the housing market reacts. Reynolds says a more run-of-the-mill recession, neither mild nor severe, may lead to a larger correction of home prices, helping housing become affordable for more people faster.
Id it’s a milder recession, on the other hand, “we may not see prices react all that much to the downside,” Reynolds says.
What Conditions Could Lead to a Housing Market Crash or Housing Bubble Burst?
While current conditions don’t point to a housing market crash, there’s no crystal ball to guarantee how the economy will fare in the next few months or years.
A few factors that could make the housing market more unstable include:
— Unemployment. A slight increase in unemployment would be OK, but a bottom fallout could be an indication of danger for the housing market. If too many people are without work, then distressed home sales climb and foreclosures become more likely. “There are predictions of an upcoming recession and possible large-scale layoffs. That surely would raise the number of households who fall behind on home loans and send foreclosure numbers upward,” wrote Rob Barber, CEO of market intelligence at real estate data company ATTOM, based in Irvine, California, in an email.
— Buyer demand. Housing markets have cooled slightly but demand hasn’t disappeared, and in many places remains strong largely due to the shortage of homes on the market. If buyer demand completely disappears, it would be a sign of a problem.
— Homeowner equity. If homeowner equity sees a massive drop, either home values are dropping fast or there’s an influx of buyers who are putting little money down. High equity now serves as a cushion for the housing market in case of economic downturn. “Having equity in a home provides a lot of motivation for owners to get caught up on their loans and preserve what they’ve built up,” Barber says. “Even when they can’t, most can still sell, pay off their outstanding debt and come out with at least a small profit if they bought more than a year ago.”
— Foreclosures. “(I)t’s hard to pinpoint a benchmark for (foreclosure) increases that would cause alarm. But if the late 2000s are any guide, quarterly foreclosure caseloads that spike by more than 10% per quarter would be a serious warning bell of danger for the U.S. housing market,” Barber says. “That’s what happened in early 2006 before the Great Recession hit and the market started falling in 2007. This is definitely a metric worth watching very closely over the next year.” For the second quarter of 2023, there was a 2% increase in foreclosure filings compared with the first quarter, according to ATTOM data.
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Update 07/27/23: This story was previously published at an earlier date and has been updated with new information.