Is the housing market about to crash? House prices have been rising to alarming levels. Is this your last chance to get on the ladder or should you wait until the market cools.
It almost seems like they are completely detached from the economic fundamentals. After all, who would have predicted that house prices would have increased by over 10.9% since the start of Covid-19. Economic contractions usually result in a decline in house prices?
House prices have been artificially propped up by Furlough and accelerated by the stamp duty holiday and the race for space. Housing affordability is forever slipping into the red for young people.
House Price Affordability
The dream of home ownership is fading. Sky-high house prices are combined with higher interest rates and stricter affordability checks. But, could this all be signalling and end to the chaotic housing market bull run? House price affordability is at it’s lowest point in over 100 years.
In recent history house price affordability has generally run between 4 to 6x the average earnings. Now you can expect to spend between 8 to 10x your annual salary on a house. Each time it has peaked above this level, the housing market has contracted.
Many young people have been taking on high levels of debt, with lower equity due to schemes such as help to buy (loans). When interest rates rise to fight inflation, many will find themselves unable to cover the price of this debt. Especially as the load repayment can increase as the value of the house increases.
Your mortgage repayment on a £250,000 house is around £750 at 2.5%, but you may find yourself repaying over £1000 if this rate jumps to 5%. The last time inflation was this high, interest rates increased to almost 15%.
The Housing Market 2008 vs 2022
When you look at house prices through a recent lens it gives you a bleak picture. The 2008 global financial crisis caused a devasting house price crash. Since then the market has rebounded and prices have increased dramatically. You might therefore conclude that was a once in a century opportunity to buy a house.
The only other prior periods of negative equity were in the 90s and 70s. According to Fred Harrison, property prices fall every 18 years. What you have to remember is that the economic blip in 2000, known as the .com crash changed global economics. It was a pre-lude to 2008, and 2008 is going to be a trigger for the next financial crisis.
In 1990 the average house price was £58,250. By 2000 it has increased by 45% (3% per year on average) to £84,620. Just over 20 years later The average house price in the UK is now £274,000. That’s a 224% increase, which works out to about a 10% per year increase. More than double it’s historical rate.
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Low Interest Rates Created The Bubble
The reason or this is that following the interest rate hikes in the late 80s and early 90s that caused the housing market to crash. The interest rates were axed from around 15% to between 6% to 7%. This allowed investors to through more freely available cash into risky ventures. This caused the .com crash.
As you can see the period between 1990 and 2000 is when house prices started their dramatic accent. Following the .com crash the base rate to 3.5% at it’s lowest point in 2003. Policymakers attempted to stem the flow of free cash leading up to the 2008 financial crisis but it was too late. The resulting crash, caused the base rate to be dropped to zero.
Cheap Debt Is Fuelling The Fire
This cheap debt has fuelled an unstainable housing market of low interest, low equity debt (e.g. 5% deposits). As interest rates climb, this debt will come crashing down. Vast sums of monetary stimulus (e.g. furlough) schemes have further strengthened inflationary pressures. This is why the Bank of England won’t take the gloves off when it comes to fighting inflation.
Central banks such as the Bank Of England have also accrued a substantial amount of debt. This is a policy whereby the central bank purchases securities. This is in an attempt to reduce interest rates increase the supply of money and drive more lending to consumers and businesses. As such they will attempt to inflate their way out of debt.
As a result, Inflation and the cost of living crisis will get worse before it gets better. Central banks are seriously hesitant to raising rates because of all this debt. They are unlikely to take the gloves off when it comes to fighting inflation, as they fear crashing the economy.
Millions Face Negative Equity
As interest rates rise, this could cause the market to snap back to reality. Many homeowners could end up in negative equity. This is where the value of the property becomes less than the mortgage. Buyers who over-stretched their finances and took advantage of ultra-cheap rates are vulnerable to this scenario.
Those who bought houses on this cheap debt, run the risk of falling foul of falling prices. This is because their mortgage is based on stretched affordability, and they may struggle to re-mortgage when the rates rise. The higher the rates rise, those low equity, high debt homeowners who cannot afford to re-mortgage will try to sell their properties.
This will flood the market with for-sale homes. It will be a race to the bottom (price-wise) for those who need to sell or get reposed. Ultimately, the lack of inventory, high price environment we are in now, will invert. It will be a buyers’ market.
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Negative Equity In The 90s And 2008
The 80s property boom saw prices rise by 20%. The market crashed over a four year period starting from around 1990. By the mid-90s one in 10 homeowners were in negative equity. The last boom saw 630,000 in negative equity by 2013, as property prices fell by up to 18%. Prices peaked around 2007 and by January 2009 had shed 16.6%. This equates to around £35,000.
Now consider how far from reality the current property prices from what you have just read. There is serious potential for an absolute blood-bath when it comes to a house price crash. Millions more will fall into negative equity as the value of their home falls.
At the same time, rates may rise pushing up their mortgage and leaving them unable to mortgage a the end of their fixed period. Which is a far better scenario than if they are on a variable rate tracker as this is subject to immediate change following a base rate rise.
The Buy To Let Frenzy
You might feel a little callous for wishing for a property price crash. Let me ease your conscious. The near-zero borrowing rates of the past decade have forced many people out of their local areas. You might think that making money cheaper to borrow would help people buy homes. No, instead it has allowed second, third, fourth etc homeowners to buy extra properties buy lending on their current home.
As such they’ve been able to easily beat local owners to the pip. Especially in low cost of living areas where average earnings are lower. They have then proceeded to convert these houses into holiday homes and buy to lets. This has pushed prices up, In places like St Ives property prices are 14x that of the local income.
This is has resulted in a lack of stock because of the accumulation of buy to lets, second and third homes. In many places such as Wales, Yorkshire and Cornwall second homes account for more than 25% of the market. In Robin Hoods Bay (Yorkshire) only a hand-full of residents remain in the original village.
Now consider what will happen to these would-be property tycoon as the cost of living bites and tourism falls just as they are faced with higher payments. They will all be forced to sell and the local market crashes. The locals would be able to return and buy in their hometown.
Will House Prices Actually Ever Fall?
The housing market has been overvalued for some time now. It seems like they will never go down. You might have through the market would have crashes at the start of Covid, instead it went up. Back in January I called out that we were in the late stages of a housing bubble, yet prices remained buoyant.
You might therefore be sceptical if the bubble will ever pop. Many people have been panic buying as a result of this. As they feel it’s their last chance to get on the housing ladder. I definitely believe their has been a shift. We’ve been waiting for a long-time for the trigger than will cause the crash. The rising interest rates seem to be the pin. The economic paradigm of low inflation and low rates seems to be coming to a close.
As a result, there’s now lots of data coming through about the falling mortgage approvals, asking price and falls in selling price. In my area house prices have fallen by 14k in the last 3 months. There are also many calls for house prices being overvalued. This is also coming from mainstream media and banks. Banks in particular, only usually warn of this kind of thing, when they’re getting into trouble. For example, millions are probably going to start defaulting.
How Much Will House Prices Fall By?
You have to scrutinize claims about how much house prices might fall. The same companies that predicted a strong market, will quickly change their predictions to “levelling off”. Those that told you the house market would level off, will now tell you it might fall 5%. Add to this, many predictions come from real estate companies, means a healthy dose of scepticism is necessary.
Until very recently, there haven’t been any major claims the housing market is about to crash. This is because, nobody warns about house market crash until it’s too late. For years, you’d be hard pressed to find any negative predictions. In the worst case scenarios that house prices might stop going up.
This seems to have changed in recently weeks. The ECB have said house prices in Europe are overvalued by 15%. Savills have changed their prediction for a decline of 5% to 10%. Capital economics think there could be 5% fall in 2023.
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Are These Predictions For The Housing Market Conservative?
The calls for house prices in the UK are pretty conservative vs the rest of the world. With crashes of 20% in New Zealand, 10% in Australia and 10% in the United States. This seems conservative for the US, when you consider that 97% of areas of the US are up to 75% overvalued. Core Logistic (a real estate firm) finds that
65% of housing markets are “overvalued” (i.e., home prices there are above what local incomes can support). M
26% of U.S. housing markets are priced “normal”
9% are “undervalued.”
Predictions For The Housing Market Bubble
The Dallas Fed have also indicated that the housing market maybe at the peak of a bubble. In the first quarter of 2022, that house-price-to-income ratio rose to 95.97. They suggest the last time this happened, home prices eventually snapped back. To quantify this, this ratio compares to a peak of 102.64 in the 2006 housing bubble.
What you have to remember is that the same economic fundamentals have caused rocketing prices in each country. That is to say, cheap debt. Additionally, monetary tightening (e.g. a credit crunch) are also coming out of the inflationary crisis. In short, we are all in the same boat.
Based on my research of my local area, I think this could be more towards 20-30%. Although I am split between how much of this will be a crash, and how much stagnation there will be. Which will allow house prices to fall in real terms as wages catch up.
Predictions For Global Housing Markets Don’t Look Great
I’ve been saying for years that property market is overvalued. The fact that we’re in a property bubble is nothing new. It doesn’t surprise me that the housing market could be about to crash. In fact, I think anyone who has bought a house since 2018 could be at risk negative equity. What is new, is that the economic environment is changing and this could cause a snapback in prices.
Monetary tightening and more expensive debt, means that the economy will contract. Until now you could bury yourself in debt and no one would take a second look. In times of recession, banks don’t want to lend. This means more people fail affordability checks. This means less demand on housing supply.
Homeowners wanting to re-mortgage will be asked harder questions on their income and ability to repay the loan. This becomes a harder question to answer and rates rise and debt becomes more expensive. If you can’t re-mortgage then you have to sell. More supply in the market and less demand means prices fall.
You can see below, how in the 70s and 80s house prices deviate too much their historical average, the rates rise. This causes prices to fall or stagnate. This financial crisis in 2008 required further rate cuts to revive the economy. This has resulted in a bubble overlaying the original housing bubble.
This could be a great scenario for young people looking to buy their first home. For years, many people have been locked out of the housing market. This could all change as the housing market looks like it might be about to crash.
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Conclusion: Is The Housing Market About To Crash?
Everyone is keen to fool themselves that the housing market is robust, stable and can never crash. It’s easy to forget the past when all you’ve seen for the last decade is house prices rising.
Young people around the world are too familiar with the dream of homeownership slipping away. Sky high rents and a roaring housing market are all many have ever known.
But… what has happened in the past can happen again. Economics tend to repeat themselves. Recessions, house prices crashes, credit crunches and negative equity run in cycles.
This cycle has been one of the hottest ever as monetary supply run out of control. It’s been raining money (of rather debt) for far too long and it’s time for a reckoning. So yes, the housing market could be about to crash.
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