The Truth About The Housing Bubble Of 2021

If you look at the most active real estate videos on YouTube, you'll find that the forecast for the next housing bubble is very popular.

Is there a housing bubble approaching, or is it just sensationalism that drives people to watch these "reports?"

Today, we'll examine the evidence and I will give you data that tells you everything you need to know about a housing bubble in 2021.

See US Housing Market Update 3/2021

A Housing Market Crisis?

What Is A Housing Bubble?

Before we examine the evidence that will clue us in on the likelihood of a housing bubble, let's first define what a bubble is and how one comes about.

Here is how Investopedia defines a housing bubble:

A housing bubble, or real estate bubble, is a run-up in housing prices fueled by demand, speculation, and exuberant spending to the point of collapse. Housing bubbles usually start with an increase in demand, in the face of limited supply, which takes a relatively extended period to replenish and increase. Speculators pour money into the market, further driving up demand. At some point, demand decreases or stagnates at the same time supply increases, resulting in a sharp drop in prices—and the bubble bursts.

In order to simplify this definition, let’s point out that it identifies two separate types of demand. Organic demand and non-organic demand

Organic demand is what we consider normal home shoppers. Families moving. People buying their first home. People relocating due to a change in work. People moving up. People downsizing. The normal reasons that people move and sell and buy homes.

Non-organic demand is the speculative investors who buy homes not for use, but rather for investment purposes. Investopedia points out that when speculators pour money into the market, we see increased demand.

But non-organic demand is not “real” demand. These are not people who will use the home, they are just holding it with the idea that values will go up and they will sell for a profit.

So in simple terms, non-organic demand drives up prices which causes the production of new homes to surge. When the reasons for the demand diminish or are exhausted, the production of new homes continues until the market is over-supplied. This over-supply leads to falling prices (which is the sign that the bubble has burst).

The bubble is the exorbitant growth of the market, the burst is the subsequent collapse that ensues.

The Last Housing Bubble Burst In 2006

We can look to the last housing bubble to understand how the next one will form and what signs we will see to know that a burst is imminent.

The last bubble began building in 2002 and was the result of a lot of factors. An over-simplified list of the two biggest contributors follows:

1. The tech bubble burst in 2000. Many people who lost money in the resulting stock market crash decided to pull their money from stocks and move it to real estate because they had positive experiences in owning real estate and felt it was safe.

2. Simultaneously, the Fed cut interest rates and held them down. New government policies were enacted to increase the homeownership rate. 

These two factors combined to create an increased demand for homes in most US markets. While one could argue that the second factor was organic growth in the market, the first factor clearly was not. Rampant speculation by new real estate investors created an unsustainable demand for homes. They were buying to flip, meaning they were not going to use the homes, rather they were just going to make money from buying and selling them.

This inorganic growth of the housing market could only last so long as investors were making money, and we saw sales surge higher than ever before (and sales were higher in 2005 than they are today). It seemed as if everybody was buying homes.

But then the government programs that were created to encourage homeownership began to fail. (Again, an oversimplification), that stimulus went away. But builders kept building homes for what they felt would be a never-ending need for more homes.

As supply increased, prices softened, and investors soon found that they could not profitably flip homes. Investors began leaving the market, and this flooded even more inventory into an over-supplied market. This was the bubble bursting.

The bubble burst in 2006 and started the decline of the housing market that went until a bottom was reached six years later in 2012.

The Housing Bubble Of 2021

So let's look at conditions today, and see if we can draw upon our knowledge of the last bubble to see where the market sits today.

Let's start by looking at the current demand. Is it purely organic, or is there an outside influencer heightening demand?

Demand For Homes In Tallahassee

The following graph shows the number of homes sold each year from January through October.

The amount of homes sales happening right now shows strong demand, but not at the levels we saw as the bubble formed from 2004 through 2006. And consider this.

Our population is larger than it was back then, so one would expect to see a higher level of organic demand for homes today than we saw fifteen years ago. So does that mean we are safe?

Not at all. Because there is an outside influencer that is having an impact on demand. Historic low-mortgage interest rates, the result of the government stepping in to stimulate the COVID-ravaged economy, have made home affordability an incredible opportunity today. People are borrowing money to buy homes at rates below 3%, and this has caused heightened demand.

The graph above shows that this heightened demand though is not at unsustainable levels. But we need to dig deeper.

The Supply Of Homes For Sale In Tallahassee Is Low

The following graph shows the supply of homes for sale in Tallahassee over time. The real supply is shown in red, while the relative supply (months of supply of homes) is shown in blue.

This graph immediately shows a very different image than what we saw in 2006. The supply of homes for sale is not rising, actually, it is falling.

The blue lines in the graph above measure the supply of homes relative to the current rate of demand, and we see that there are only 3.4 months of supply of homes for sale right now (which is about 1/4th of what it was after the housing bubble burst).

So instead of seeing a housing bubble ready to burst, we are actually seeing the signs one would expect to see several years prior to the formation of a housing bubble.

We see heightened demand and falling supply. For there to be a bubble, we'll need to see home builders come in and start building homes at unsustainable rates. That is clearly not happening.

New Home Construction Production Levels

The following graph shows new construction activity in Tallahassee for the past thirty years.

We saw 140 new homes permitted per month as the housing bubble crested in 2006, yet today we are seeing less than 50 per month. In fact, the average number in the 1990s was closer to 100 per month.

After looking at this graph, are you concerned that builders today are building too many homes? Are we ramping up production at unsustainable levels? It certainly does not seem so.

The low inventory in the market, coupled with the feverish demand fueled by low mortgage interest rates should make you wonder what the heck builders are doing? Why aren't they building more homes?

New Construction Costs Are Moving Higher, Faster

The cost to build homes is only going higher. Existing homes are not keeping pace (yet), so the market for new homes is softened by the cost to acquire them.

Right now, we're seeing the average new home costs about 60% more than the average existing home. The market that so desperately needs more homes cannot afford what they cost to build.

And the problem is only going to get worse.

If you think the 55% growth in the minimum wage since 2005 had no influence on the rising price of new homes, then you are going to be blown by how costs rise now going forward.

Couple rising wages with the increased cost of land development and the scarcity of land and it won't be long before a new construction starter home will cost more than $500K in Tallahassee. I expect to see this as reality no later than 2025.

Right now, the median home price in Tallahassee is about $215K, while the median new home price is $300K. Considering that just 20% of Tallahasseans who purchased homes this year spent $300K or more, you can see why builders are not building. They cannot build a home at a price that most home buyers can afford.

The Truth About The 2021 Housing Bubble

Here's the truth about the housing bubble in 2021. It will not happen. It cannot happen.

It is possible that another housing bubble could occur in the future, but it certainly won't happen in 2021. There is no reason to believe that builders will be able to over-supply this market in the near future.

I do expect to see demand decline when mortgage interest rates rise. But will rates rise significantly in 2021? I doubt it, but no matter how fast they move, it will not put the market in a bubble.

In fact, I suspect that the Fed will find itself in a quandary in 2021. The Fed will want to keep rates low to stimulate the ailing economy, but it will want to increase rates to reign in the housing market and the hyper rate of real estate appreciation.

If rates do move up, they will most likely do so conservatively, as I cannot imagine our fragile economy handling much in that regard. Regardless, we should expect inventory shortages to exist through all of 2021. This is the complete opposite of a housing bubble! The shortages will continue well into 2022. 

2022 is still far enough out that other factors could push the market into harm's way, but it just does not seem like we should be concerned today with over-building the market.

The only concern for the housing market is the slowdown that will naturally occur as mortgage interest rates move to more normal levels. This still will not create a housing bubble, as the supply-side of the market has been ignored for too many years and today’s demand is consistent with the organic needs of our growing population.

We need more homes to cover the slow population growth that continues in Tallahassee, and a housing bubble requires the supply-side to explode as demand diminishes. 

Short of a major economic change (like the State moving its government outside of Tallahassee), there is no housing bubble on the visible horizon, and certainly not in 2021.

When moving to, in, or from Tallahassee, you will fare better if you work with a local expert. We are here to help. If you have further questions on the Tallahassee real estate market, you can leave a comment below, give us a call at (850) 366-8917, or drop us a note and we'll give you the local information needed to ensure a successful, smooth transaction.

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