It can't burst if it's not a bubble
The housing market slowdown is a correction, not a crisis.
The bursting of the housing bubble in 2008 was so loud it still rings in the ears of most Americans. So it was not surprising that, egged on by media outlets, concern has arisen that the U.S. is headed for another now that the housing market is cooling. We aren’t expecting a pop because we believe this to be an ongoing correction of a badly unbalanced sector. The current cycle wasn’t driven by unconventional loans, but unconventional monetary and fiscal policy, not to mention life, during the pandemic.
The rate at which home prices increased in the last two years is by historical standards explosive. But unlike the housing crisis, built on subprime loans with shoddy underwriting, lending standards did not deteriorate. The vast majority of loans are of exceedingly high quality, and delinquencies low by any measure.
That’s a crucial difference and a major reason why the U.S. neither experienced a bubble nor is headed for a new crisis. Typically, interest-rate sensitive sectors lead the economy in expansion and contraction, and housing is the ultimate rate-sensitive purchase. So when the Federal Reserve slashed rates in 2020 in response to Covid, lower mortgage payments made purchasing a house more affordable, producing a boom in demand for single family homes by both home buyers and real estate investors. As stimulus payments filtered through households and investors bought up supply, housing prices began to increase far beyond gains in regular income—an unsustainable trend.
It's about supply and demand, not speculation and unsupportable loans
Now that the Fed has moved to combat inflation by raising rates, the combination of higher prices and mortgage rates has made housing unaffordable for a significant number of potential buyers. Demand for any good will decline when it becomes unaffordable, and housing is no exception. The market has been slowing for months, but recently a bevy of data now come with the tag “since.” Sales of new homes fell to 511,000 units in July (lowest since 2016), the monthly supply of new houses ratio rose in July to 10.9 (highest since 1960), the comprehensive housing-affordability index slipped to 98.5 in June (lowest since 1989) and the builder's confidence index declined to 49 in August (excluding the pandemic, the lowest since 2014). Other worrisome numbers include a drop in starts and permits, and sales of existing homes.
Together these numbers sound worse than they actually are, and certainly garner media and investor attention. But they don’t signal a 2008-like fall attributed to low/no documentation loans that required little in the way of income or asset verification and often riddled with inaccuracies. Rather, they correspond to a market adjusting from untenable levels resulting from the pandemic-related recession.
Housing should eventually reach an equilibrium level that aligns supply and demand, allowing income to catch up and restoring affordability. Prices might stagnate or grow slowly for a period of time, or the reset might be more drastic. Either way, a more healthy and balanced housing market should result.