Higher interest rates, inflation, and demand for housing have led some to believe that the United States is in the midst of a real estate bubble, and there is a growing fear of that bubble bursting soon. So, you may be wondering if it’s true and what that might mean for you as an investor. Let’s take a moment to better understand the concept of real estate bubbles and what the current situation is in the market.
Defining Real Estate Bubble
You might have heard the term real estate bubble in the news, but you may also be more familiar with the term housing bubble. A real estate bubble occurs during times of increased demand for housing and limited supply, when speculators further drive up the prices of real estate. The bubble refers to the over-valuation of properties, and when the bubble bursts, people are left with homes and other real estate holdings not worth the price paid for them. The housing market crash of 2008 was an example of a real estate bubble bursting, though the contributing factors were a bit more complex than a simple equation of supply and demand plus speculation.
2008 Housing Market Crash
The 2008 housing market crash was mainly driven by the rise in the subprime mortgage market, which provided loans to homeowners who could, in many cases, not afford the cost of the mortgages they took out. The conditions of the loans, such as adjustable interest rates, provided for low monthly payments in the beginning, with payments ballooning a few years into the mortgage. As more and more homeowners defaulted on their loans, lenders began to feel the pinch. Bank failures, including Bear Sterns and Lehman Brothers, sent the real estate market and stock market into further turmoil. When viewing the crash of 2008, it’s difficult to make a comparison to today’s financial situation, as the contributing factors were so unique. However, at the core of the previous bubble was a demand for housing and speculation on the part of lenders.
The 2022 Housing Market
Some similarities to the past may make real estate investors understandably uncomfortable. The supply of housing can’t currently keep up with the demand, but there are markedly different contributing factors in 2022, including:
- Speculators purchasing homes for use on the short-term rental market
- Shortages of construction materials used to build new homes
- Rising costs of construction materials due to those shortages
- Increased mobility on the part of people working remotely
While prices could drop due to lower demand, rising interest rates may mitigate any savings prospective homebuyers might hope to enjoy as the market settles down. Areas seeing significant growth in population and new job opportunities will possibly see smaller decreases in home prices, and it’s unclear if homes right now are overvalued like they might be in a traditional real estate bubble. Experts right now are split on whether or not the market is currently experiencing a bubble, and it might simply be a case of wait-and-see for residential real estate.
A Crash in Commercial Real Estate?
The commercial real estate market is interesting, because it is currently in untested waters. With some companies allowing remote workers to continue to work from home instead of going back to the office, commercial office spaces are sitting empty. Vacancy rates from Q4 2020 to Q4 2021 rose significantly in major metropolitan areas, with San Francisco seeing a 7.5% increase in vacancies and Seattle, New York, and Los Angeles ranging from about 3-4% during the same time period. It is possible that the commercial real estate market might be facing an imminent collapse, though the length of lease terms for tenants may make it more difficult to gauge when and if a crash will happen. It’s also important to note that office buildings aren’t the only factor to consider when looking at commercial real estate. Analysts are seeing increases in the need for retail, hotel, and industrial spaces, which may help even out the turmoil with lowered demand for office spaces.
What it Means for Investors
Investors face different decisions and challenges when compared to homebuyers. Investing in individual properties, such as flipping houses or purchasing commercial office space, might be risky right now, but there are other options available. REITs, particularly those that invest in multifamily assets, are not part of the traditional single-family housing market. Increased worker mobility and demand for apartment rentals continue to drive the market for REITs, providing a unique opportunity for investors who want to create a long-term wealth-building strategy and hedge against inflation. DiversyFund growth plans invest in these multifamily assets and carefully examine the real estate market at every step to make sure each property meets the goals of its investors.