While inflation is on the tips of all our tongues, what about home prices? Are we in a housing bubble?
Maybe. One thing we can say is that the housing market is certainly not like it was in 2006 & 2007 with absurd valuations based on little fundamental grounding. Currently, anyone having recently obtained a mortgage or refinanced can attest to the amount of financial information demanded from lenders to make sure they’re taking a good risk. However, rapidly rising housing prices demand we take a look at some numbers.
Firstly, let’s look at the home price to rent ratios from Rosenberg Research. This chart compares the total costs of homeownership with the total cost of renting a similar property. The price-to-rent ratio shows whether buying or renting would be best for a particular property in a given market. The total cost of homeownership factors in mortgage principal and interest, property taxes, insurance, closing costs, homeowners association (HOA), mortgage insurance, and tax advantages, such as the mortgage interest deduction. Look at the horizontal blue line. The average price-to-rent ratio hovers slightly below 0.6, which if you use this chart alone, would tell homebuyers that it’s generally a better idea to buy than rent; a price-to-rent ratio significantly above this line indicates it is typically better to rent than buy.
This chart indicates that we’re over 20% above the national average. A case for housing overvaluation? Not necessarily, because it depends on your market, but these things do tend to revert to the mean.
In markets like the San Francisco Bay Area, rents and housing price ratios generally converge much more. So, if you’re a Bay Area resident, this may not apply to you, but it might then again if you own a vacation home in proximity to the Bay Area.
Next up from Rosenberg is the Household Net Worth Share of Disposable Personal Income. This is basically a “Wealth Effect” chart. When we have conditions like the current, with stock prices up, home values up, and jobs paying great compensation, the perceived “Wealth” of our population creates an “I’m Rich” mentality, leading to being more comfortable with bidding up housing prices when purchasing. This again (using history as our guide) reverts to the mean over time. Should it revert over the next several years, we’re likely to have a wealth effect pullback in housing prices as well.
On the flip side to this data, it’s generally (but not always) a good idea to own a home for many reasons both financially and psychologically, but we always advise the following before buying:
Make sure you can afford the home under the worst financial conditions, not just your average or ideal conditions (which may be the present one for you). Humans are wired to think in a linear way – meaning “what’s happening now will continue indefinitely”.
Make sure you commit to owning the home for 10 years or more if possible. Not including real estate investments (not your home), you should plan on owning your home for 10 to 20 years or more ideally.
Don’t forget to factor in repairs, maintenance and upkeep, and appropriate insurance coverage.
As always, we’re here to help in any decisions you may be considering. Don’t be shy about contacting us and be well!
