Great analysis. As long as we have a strong labor market, I don't think housing prices will go down that much. We have a structural supply shortage in housing in the US.
What might trigger the next leg down is a worsening of the labor market or higher interest rates if inflation creeps back up. If we're in the midst of a commodity supercycle as many are predicting, the current downtrend in inflation will not last. If/when oil goes back up to $100 a barrel, the fed will be forced to keep rates higher for longer.
What is the metric you use to establish whether there is a supply glut or supply shortage? As I mention here in the footnotes, my analysis ignores the question of physical supply entirely - in part because I'm not sure the best data to incorporate it. I have heard the "supply shortage" from many people but not sure how it is backed up? New single family and multifamily unit starts have increased substantially over the past decade and are now rolling over, but I don't have a gauge of how total inventory compares to total households over time, or how to track household formation.
Agree that the labor market will remain a critical factor (and in my simple analysis would be reflected in the change in disposable incomes), and of course the direction of monetary policy is probably the biggest factor.
I don't know about a super cycle in commodities, but it does seem as if oil has found a floor, and is starting to become inflationary again. The Fed likes to say that it can't control energy costs and looks to core for policy decisions, but energy remains an important part of personal expenditures and inflationary psychology which means that the Fed ultimately does take it into consideration as it sets policy.
I agree with the NYT analysis. We can have falling housing prices and a shortage at the same time. Higher mortgage rates is slowing down demand temporarily and hence lower prices. The acceleration of people moving away from CA, OR, WA, NY to AZ, TX, FL is also a big factor.
I bought another rental house during the pandemic in 2020 ("when there's blood on the street, buy real estate"). I sold it in 2022 for big gains. I'll come back to the market when I see more blood.
Thanks for the links, I will give them a read - And congrats on the well timed transaction! Agree there will be a better time to enter the market again
Thanks for this article Mr. Bear! As an spanish, I'm looking at this in a very similar way in my country. Prices still high due to the high demand that cities have. Also, the gross of the properties are in boomers power, younger generations cant afford to live with more than 40% of their salaries into mortgage (very few takes this option) nor renting. So let's see once this get's more even unsustainable with the pensions ponzi fraud (you should do one article about this, would be funny :)
If I comment on European real estate, I'm definitely getting out of my comfort and knowledge zone... though... from what I do know, it seems like developed western countries excluding the U.S. are potentially in a worse situation, because many didn't feel the last "bust" in the same way the US did, and because ECB policy has been even more extreme than the Fed - pushing rates negative for an extended period. I expect that housing prices will start to become a major point of social contention if the ECB stays on their hiking path.
The issue in Europe, is that everyone wants to stay in major cities, also that the terrains are not liberalized making things harder, add to the equation states interventionism... not a good cocktail to be involved in
Thanks for the article Bear. I look forward to reading these every week. Does your analysis take into consideration the amount of investor owned single family homes/ properties from the year 2000-present. It seems the percentage of investor owned houses had a large run up during the post GFC Goldilocks era of low rates and fed purchased MBS. If rates remain “higher for longer“ it seems many investors may end up offloading properties feeding into a cycle of increased inventory and lower prices.
Nope it certainly doesn't consider this, or even attempt to incorporate any measure of housing stock. But I agree that non-resident buyers (i.e. investors, second-home buyers, Airbnb folks) could definitely be source of forced supply.
Somebody beat me to it, but housing prices won’t markedly drop unless labor market cracks. If you currently own a home paying 3% on your mortgage, you are not moving and replacing that with a 6% mortgage unless you are forced to if you lose your job. A beer on housing is really a bet on whether the Fed can engineer a soft landing. The equity and bond markets currently believe so, but I’m not so sanguine.
Though I would note that that housing prices have already markedly dropped. Sales volumes have totally collapsed and the entire west coast has seen >5% drops in the course of just 6 months which is a huge move for real estates prices. This has happened with a 3.5% unemployment rate. If unemployment rises from here, I agree this accelerates to the downside.
"... there is far less systemic risk than the last go-around, even in a protracted down-market. "
This is an important insight. Perhaps worth noting is that if the economy drifts lower and layoffs deepen and extend from the current small-ish number of localities (*cough* Silicon Valley *cough*) that outlook could change. I
Thank you Bear, another great topic. Some additional data points to consider may be the operating cost specifically related to the home. I'll pick on the power bill as example: I just received notice of 13% rate increase for my residential power usage here. This is the first major rate increase I've seen in our market here in the past 3 years. It goes into effect in March. Quick google implies that as of March last year PGE (largest distributor of power in CA) had notified its public utility commission of 18% increase to start Jan 2023. It stands out that on my notice (Northeast) it says that the PUC can't stop the rate increase and that it would go on the bill regardless, not sure if the same in the CA market or not - that PGE notice appears to be in a review process as far as I can tell from their online tracking system, but I wonder if they can still surcharge it in the mean time. Checking one of the other metro areas you covered here (Chicago) -- they seem to have notified of 18% increase starting by next year (as far as I can tell they already have about an 8% increase on the slate for this year. Even Florida Power & Light is increasing 10% starting in April. If 2022 was fuel, it makes me wonder about the impact of inflationary forces in 2023 via electric bill - something nearly every entity carries regardless of transportation needs and productivity area. Diesel effects a lot, including power. But power itself is probably an input for nearly all productivity (and leisure).
Along the same lines and tying in perhaps more directly to your original topic -- there is also a national (if not global) transformer supply issue: specifically pad mount transformers of the size that are typical for most residential service are extremely scarce and have increased dramatically in price to the end user as a result. In any area with new construction of the underground delivery variety -- this shortage is preventing new housing from being completed such that it can hook up to the grid. Current lead time is in the neighborhood of 70 weeks (according to my power company).
This is an interesting question that I've thought about as well - how do higher energy and utility maintenance costs ultimately hit the consumer.
In some states with highly deregulated markets like Texas, consumers have a wide range of options with respect to how they pay for electricity - either locking in fixed rates or taking "market prices" as they come. Though I believe most states have more of a fixed rate system which adjusts at various points in time.
As electricity costs have increased due to the higher cost of coal and natural gas over the past year much of that was initially borne by utilities, and there may be a lag effect of when it shows up on ratepayers bills.
Besides direct costs, there are the capital costs associated with the grid like the transformers you mention. Utilities generally operate on a "rate-base" system where they get to charge customers whatever covers their costs plus a 10% return on their capital base. They need Public Utility Commission approval for major capital projects, and they only get to adjust their rates periodically.
So to the extent that major maintenance or expansion has to be done (as is the case with PGE in California) or the general costs of operating a utility goes us (labor, materials etc), that hits consumers on a delay.
So to your point, I think that there are certain of inflationary costs that will trickle down to consumers on a lagging basis. I would consider these in the wide range of "carrying costs" associated with owning a home, which have increased as well.
Great analysis. As long as we have a strong labor market, I don't think housing prices will go down that much. We have a structural supply shortage in housing in the US.
What might trigger the next leg down is a worsening of the labor market or higher interest rates if inflation creeps back up. If we're in the midst of a commodity supercycle as many are predicting, the current downtrend in inflation will not last. If/when oil goes back up to $100 a barrel, the fed will be forced to keep rates higher for longer.
Thanks David.
What is the metric you use to establish whether there is a supply glut or supply shortage? As I mention here in the footnotes, my analysis ignores the question of physical supply entirely - in part because I'm not sure the best data to incorporate it. I have heard the "supply shortage" from many people but not sure how it is backed up? New single family and multifamily unit starts have increased substantially over the past decade and are now rolling over, but I don't have a gauge of how total inventory compares to total households over time, or how to track household formation.
Agree that the labor market will remain a critical factor (and in my simple analysis would be reflected in the change in disposable incomes), and of course the direction of monetary policy is probably the biggest factor.
I don't know about a super cycle in commodities, but it does seem as if oil has found a floor, and is starting to become inflationary again. The Fed likes to say that it can't control energy costs and looks to core for policy decisions, but energy remains an important part of personal expenditures and inflationary psychology which means that the Fed ultimately does take it into consideration as it sets policy.
Article on NYT about housing shortage from July last year.
https://www.nytimes.com/2022/07/23/business/housing-market-crisis-supply.html
It references this Freddie Mac article from 2021.
https://www.freddiemac.com/research/insight/20210507-housing-supply
I agree with the NYT analysis. We can have falling housing prices and a shortage at the same time. Higher mortgage rates is slowing down demand temporarily and hence lower prices. The acceleration of people moving away from CA, OR, WA, NY to AZ, TX, FL is also a big factor.
I bought another rental house during the pandemic in 2020 ("when there's blood on the street, buy real estate"). I sold it in 2022 for big gains. I'll come back to the market when I see more blood.
Thanks for the links, I will give them a read - And congrats on the well timed transaction! Agree there will be a better time to enter the market again
Thanks for this article Mr. Bear! As an spanish, I'm looking at this in a very similar way in my country. Prices still high due to the high demand that cities have. Also, the gross of the properties are in boomers power, younger generations cant afford to live with more than 40% of their salaries into mortgage (very few takes this option) nor renting. So let's see once this get's more even unsustainable with the pensions ponzi fraud (you should do one article about this, would be funny :)
Regards TLBS!
If I comment on European real estate, I'm definitely getting out of my comfort and knowledge zone... though... from what I do know, it seems like developed western countries excluding the U.S. are potentially in a worse situation, because many didn't feel the last "bust" in the same way the US did, and because ECB policy has been even more extreme than the Fed - pushing rates negative for an extended period. I expect that housing prices will start to become a major point of social contention if the ECB stays on their hiking path.
The issue in Europe, is that everyone wants to stay in major cities, also that the terrains are not liberalized making things harder, add to the equation states interventionism... not a good cocktail to be involved in
Thanks for the article Bear. I look forward to reading these every week. Does your analysis take into consideration the amount of investor owned single family homes/ properties from the year 2000-present. It seems the percentage of investor owned houses had a large run up during the post GFC Goldilocks era of low rates and fed purchased MBS. If rates remain “higher for longer“ it seems many investors may end up offloading properties feeding into a cycle of increased inventory and lower prices.
Nope it certainly doesn't consider this, or even attempt to incorporate any measure of housing stock. But I agree that non-resident buyers (i.e. investors, second-home buyers, Airbnb folks) could definitely be source of forced supply.
Thanks for you reading!
Somebody beat me to it, but housing prices won’t markedly drop unless labor market cracks. If you currently own a home paying 3% on your mortgage, you are not moving and replacing that with a 6% mortgage unless you are forced to if you lose your job. A beer on housing is really a bet on whether the Fed can engineer a soft landing. The equity and bond markets currently believe so, but I’m not so sanguine.
Though I would note that that housing prices have already markedly dropped. Sales volumes have totally collapsed and the entire west coast has seen >5% drops in the course of just 6 months which is a huge move for real estates prices. This has happened with a 3.5% unemployment rate. If unemployment rises from here, I agree this accelerates to the downside.
"... there is far less systemic risk than the last go-around, even in a protracted down-market. "
This is an important insight. Perhaps worth noting is that if the economy drifts lower and layoffs deepen and extend from the current small-ish number of localities (*cough* Silicon Valley *cough*) that outlook could change. I
Thank you Bear, another great topic. Some additional data points to consider may be the operating cost specifically related to the home. I'll pick on the power bill as example: I just received notice of 13% rate increase for my residential power usage here. This is the first major rate increase I've seen in our market here in the past 3 years. It goes into effect in March. Quick google implies that as of March last year PGE (largest distributor of power in CA) had notified its public utility commission of 18% increase to start Jan 2023. It stands out that on my notice (Northeast) it says that the PUC can't stop the rate increase and that it would go on the bill regardless, not sure if the same in the CA market or not - that PGE notice appears to be in a review process as far as I can tell from their online tracking system, but I wonder if they can still surcharge it in the mean time. Checking one of the other metro areas you covered here (Chicago) -- they seem to have notified of 18% increase starting by next year (as far as I can tell they already have about an 8% increase on the slate for this year. Even Florida Power & Light is increasing 10% starting in April. If 2022 was fuel, it makes me wonder about the impact of inflationary forces in 2023 via electric bill - something nearly every entity carries regardless of transportation needs and productivity area. Diesel effects a lot, including power. But power itself is probably an input for nearly all productivity (and leisure).
Along the same lines and tying in perhaps more directly to your original topic -- there is also a national (if not global) transformer supply issue: specifically pad mount transformers of the size that are typical for most residential service are extremely scarce and have increased dramatically in price to the end user as a result. In any area with new construction of the underground delivery variety -- this shortage is preventing new housing from being completed such that it can hook up to the grid. Current lead time is in the neighborhood of 70 weeks (according to my power company).
This is an interesting question that I've thought about as well - how do higher energy and utility maintenance costs ultimately hit the consumer.
In some states with highly deregulated markets like Texas, consumers have a wide range of options with respect to how they pay for electricity - either locking in fixed rates or taking "market prices" as they come. Though I believe most states have more of a fixed rate system which adjusts at various points in time.
As electricity costs have increased due to the higher cost of coal and natural gas over the past year much of that was initially borne by utilities, and there may be a lag effect of when it shows up on ratepayers bills.
Besides direct costs, there are the capital costs associated with the grid like the transformers you mention. Utilities generally operate on a "rate-base" system where they get to charge customers whatever covers their costs plus a 10% return on their capital base. They need Public Utility Commission approval for major capital projects, and they only get to adjust their rates periodically.
So to the extent that major maintenance or expansion has to be done (as is the case with PGE in California) or the general costs of operating a utility goes us (labor, materials etc), that hits consumers on a delay.
So to your point, I think that there are certain of inflationary costs that will trickle down to consumers on a lagging basis. I would consider these in the wide range of "carrying costs" associated with owning a home, which have increased as well.