Reuters ran an article June 2018 which spelled some warning signs to the housing industry heading into a rising interest rate environment. Since the financial crisis of 2008, Reuters reports that average home prices have increased 5% annually, far outpacing wage growth (2.8%) and inflation (2.5%). Now the numbers can look dry and mind numbing but there is something important going on in the Real Estate market that cannot be overlooked.
Rising Interest Rates
While we are still in a historically low interest rate environment, pricing is relative.
Since many people take on debt to purchase a home, rates can have a direct impact on the price a seller is able to sell it for. Buyers aren’t interested in that bottom line price. Instead they are worried on what their monthly payment is going to be and how it fits in their budget. According to Google’s Mortgage Calculator, a monthly payment of $2,000 at 3.75 over 30 years can afford you a $431,858 dollars. However, increasing the interest rate just a quarter of a percent that affordability goes down close to thirteen thousand dollars. If you remember your Econ 101 class, this move of the demand curve has to be reciprocated on the supply curve or a shortage is created by unwilling sellers.
Yea but Tucker the economy is going great. Wages are up shouldn’t housing prices correspond to that? Could be true, but remember the first paragraph. The cost of homes has far outpaced wage growth over the last ten years. That means wage growth has to accelerate past the cost of housing or that the velocity of the cost of housing has to be suppressed or flattened.
Your Home is an Investment
If you are a millennial you were probably raised in an era where your parent’s home lost a ton of its value, seemingly overnight. Your parents also probably told you that a home is the best investment you can make. Here’s the reality though. If you could see a daily statement on your home value like you do your 401(k) you may be surprised how much it fluctuates. You should treat it as an investment with the assumption that it may not rise. In fact, there is a chance that you would lose money. Additionally, your home is considered an illiquid asset, meaning it can be more risky than investments that are readily sellable. Stay in a level that affordability is comfortable. Build your savings account to compensate for lean times. And most importantly stay educated; it’s the best tool you have.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.