“Many renters believe they will never be able to buy their own home because of insufficient credit. We can responsibly expand mortgage eligibility by including positive rent payment history in underwriting risk assessments.” Hugh R.
Frater, CEO on Fannie Mae’s newest initiative.
The Kids Will be All Right
Housing news headlines over the last year have focused on the record breaking increases in home prices. Every month Case-Shiller announces a double-digit annual increase that is the highest in its 30 plus years of record keeping. The story is echoed by CoreLogic, the Federal Housing Finance Agency (FHFA), and every other source on the subject.
For those who own a home, this has been a bonanza. But parents, even those rubbing their hands in glee over their own paper profits, are wondering if their kids will ever be able to afford a home. Their concern makes sense.
GlobeSt.com says home prices nationally have risen 153.3% since 2010 while wages have increased by only 14.2%. Since a chunk of the home price growth consisted of getting back what was lost in the crash, better numbers could be Case-Shiller’s estimate that national home prices are 41.2% higher than at the previous peak in July 2006 and 94.7% above the 2012 trough.
For a change, California isn’t in the forefront of a trend. That honor goes to other western states with more open land, less restrictive zoning, and more modest prices at the beginning of the surge. Idaho, Arizona, and Utah have had the greatest gains since the beginning of the pandemic (would you believe over 35.8% this year in little old Idaho?) California’s 21.2% gain in the second quarter of this year would have been breathtaking in the past, but now puts it in the middle of the pack. In Boise prices rose 31.8%, while they were up 18% in San Francisco. In context, however, those increases put the San Francisco median at about $1.5 million while Boise’s, despite the wild gains, was about one-third of that.
Can My Kids Afford a Home?
Are the parents of today’s generation of young adults right to worry? Will their kids be priced out of the market, spending their lives as renters? If these parents are of an age where their children are in or near their homebuying years, we might presume they are GenY and probably bought their own first homes in the mid-1990s. They might tell you that, unlike today, it was a time when almost everyone could buy a home.
The U.S. Census Bureau said this about the housing market back then.
“In 1995, about 56% of American families could afford to purchase a modestly priced house in the area where they lived. That is, they could afford to purchase a modestly priced house with cash or could qualify for a 30-year conventional mortgage with a 5% down payment. Ninety-five percent of this group currently own their house.”
When the Bureau looked only at renters (i.e., first-time homebuyers), however, the number who could afford to buy dropped to 11%. (Incidentally, “modestly priced” is a much lower metric than either median or average, the measures typically used in housing data. The Bureau defines it as the lowest price quartile, where at least 75% of homes are more expensive.) The census report went on to say that renter families were disqualified from homeownership primarily because of excessive debt and insufficient income to qualify for a mortgage.
In 1995 the median and average home prices were $130,000 and $153,500. Interest rates started the year near 9% and finished just over 7%. The median income nationwide was $35,492 and the maximum debt to income ratio for obtaining a mortgage was 38%. Homes built that year were an average of 2,095 square feet (SF).
This should tell us two things. 1) Memory is a funny thing and 2) Context matters.
It matters today as well, and the current situation can be viewed within several of them. We will tag them as causative, historic, relative, and, for lack of a better word, hopeful. In most contexts,” the current situation looks a little less scary.
How It Started
That current situation was primarily the result of what could be called a “perfect storm” over the last two years. The demographics were and are historic. Millennials (ages 27-41), the largest generation in U.S. history, were still making their delayed entry into the housing market while Gen Z (ages 19-26) was starting to buy homes at a much earlier age than their parents and older siblings. They didn’t find a receptive market. Their parents and grandparents were not about to relinquish their homes and new construction had never recovered from the 2008 crash, so inventories of both new and existing homes were sliding toward record lows. Despite these pressures, the National Association of Realtors (NAR) said annual appreciation through 2018 and 2019 was a typical 5.0%.
Then came the pandemic. The Federal Reserve pushed interest rates to all time lows, sellers cancelled listings to safeguard their families’ health, while potential buyers sought to exit crowded living situations and secure larger quarters to accommodate working and schooling at home. This wreaked havoc on the already diminished housing inventories. Supply chains were interrupted, exacerbating pre-existing problems with lumber, and pushing other building costs higher. Both new and existing home price gains almost immediately accelerated.
As History Says, They Usually Do
It is true that residential real estate nearly always appreciates. It did so every year from 1963 to 2007 and picked up again in 2012 when the worse of the crash was over. Those increases, however, have usually been modest. Census Bureau records going back to 1891 track the up years and the few down ones to come up with an average annual increase of 3.2% through 1996.
Home prices are usually given in nominal numbers, that is, a dollar is a dollar. However, if that 3.2% is adjusted for inflation, average annual gains drop to 0.3%. Sometimes home prices are driven by inflation, other times prices do the driving. Over the 100 years ended in 1996, home prices outpaced inflation by an aggregate of only 5%, but then wildly outran it over the next decade until the housing crisis reined prices in. In recent years, with little inflation present, prices have done it again.
It would take $1.79 in today’s dollars to buy what $1 did 1995. Thus, all things being equal (and they aren’t) the $130,000 median priced home when GenY was buying their starter homes would cost $232,700 today. By this measure, today’s median of $346,900 ($796,570 in California) may well be out of reach for many kids, relatively and historically.
WIRED FOR THE ROAD
Only 3% of new cars sold are electric, but they can still run out of “gas,” Thus, home charging stations are the latest amenity for the upscale garage. Standard household outlets are 120 volts with 15 or 20 amps. This is Level 1 charging which allows three to five miles of driving per charging hour. That might get you to the grocery store, but probably not back home. Level 2 requires a 240-volt circuit and amperages ranging from 16 to 80, depending on the car. One hour of charging translates to 50 to 60 miles of mobility.
The cost of upgrading a home to the realistic alternative is typically several thousand dollars plus a few hundred dollars for the charging station itself. E. B. Solomont, The Wall Street Journal
Interest Rates Matter
Forget about “all things being equal,” however. Homes have grown larger, especially those built during the housing crisis. Freddie Mac says the share of new homes with four or more bedrooms increased from 29% in 1990 to 44% in 2020. The average new home size rose from 2,095 sf in 1995 to a peak of 2,690 in 2015, pushing the median size of the nation’s entire housing stock significantly larger. Even had price per square foot remained at 1995 levels, the median price might have risen to around $159,000.
Then too, there is more to affording a house than just the initial price tag interest rates today are less than half the average rate in 1995 and rates have a larger impact on housing affordability than do home prices. An analysis of the Case-Shiller home prices by John Wake in RealEstateDecoded.com illustrates this.
The Case-Shiller National Index was benchmarked in 1990 with the then current home price in any market assigned a value of 100. Five years later the national number was 106 and by November 2021 it reached 345, meaning prices nationally had more than tripled. Then Wake blended the price index with interest rates, developing a 30-year index of monthly mortgage payments, bench- marked in the same way. By June 1995, payments had eased back to 76 and had only recovered to 108 by this past November. By the way, when Wake factored in inflation, the index for the two dates became 72 and 86, respectively.
Wake did the same computation for the twenty cities of the Case-Shiller Index. Here’s a few examples; San Francisco, Los Angeles, Chicago, Boston and Denver. In June 1995 the inflation and interest rate adjusted mortgage payment for those cities were 63,51,59,66 and 99. The recent ones were 111,86,101,92 and 141.
It also needs to be said that there are still many locations in which buying, assuming you have a down payment, is cheaper than renting. Realtor.com says this is true in 24 of the 50 largest metro areas. Rents are rising nearly as fast as home prices, up by double digits in the last 18 months.
STRANGER THAN ANIMATED FICTION
Even the Jetsons never expected their futuristic home would come off of a printer, but that is fast becoming realistic among those who have watched George Jane and their family zip around via their jetpack’s over the last 59 years.
Realtor.com recently surveyed over 3,000 adults as to whether they are aware of 3-D printed homes and how they feel about them. Forty-two percent of respondents said they are aware of the technology and 66% said they would consider living in such a house. Respondents cited the lower price, energy efficiency, and higher resistance to natural disasters. Realtor.com
Gloom but Hardly Doom
It is clear that today’s first-time home buyers face hurdles, but there is a hopeful context as well. First, real estate cycles do not last forever. We are still in that “perfect storm” that has unexpectedly impacted real estate patterns, pulling some potential purchases forward, changing buyer preferences for home size and location, but there are signs that the current cycle is beginning to burn itself out. When most “kids” can’t buy a home, demand will slow, and supply will slowly catch up. Prices are not expected to fall, but the rate at which they increase will moderate substantially. CoreLogic’s most recent forecast, based on Dec 2021 data is for the annual growth to slow to 3.5% by December 2022.
BYE-BYE ROMANTIC GETAWAYS
The travel industry was among the hardest hit by the pandemic. While airlines and big hotel chains had the wherewithal to survive, many inns and B&Bs did not. Revenue dropped 43.7% from 2019 to about $1.3 billion in 2020 and the number of B&Bs declined by about 1,400, leaving 7,340 in operation.
Some of the owners are now attempting to return their properties to what was often their original purpose, a single-family home. The 4,800 sf Jabberwocky Inn in Monterey is listed for $4.95 million. The owner of the Taylor House in a Boston suburb said his inn was never profitable and is worth more as a private home. It is listed for $3.35 million. Realtor Magazine
The rate of inflation is also picking up. This isn’t usually a good thing, but rising inflation also indicates higher wages. Where they have only risen about 15% in the last 11 years, they were up 4.5% for the 12 months ended in December, 2021. As wages rise, so will the ability to buy.
Innovations in Construction
There are also technical innovations and other changes that promise to cut the costs of construction as well as speeding up the rate at which new homes will hit the market. Homes constructed using 3-D printing are quickly gaining acceptance and builders are using increasing amounts of factory-built components. Builders are also beginning to build smaller as well. The average size of a home in 2021 was 2,540 sf.
Policy changes show promise of making homeownership easier and more affordable. Government regulators have raised the debt-to-income ratio from the once rigid 38% to as much as 45%. The- impact of restrictive zoning on the housing crisis is beginning to sink in and many localities are encouraging the development of accessory housing units and infill construction.
Declining affordability has also begun to worry big employers. Shortly before the pandemic set in, Apple, Google, and Microsoft all pledged hundreds of millions of dollars to encourage the development of thousands of affordable houses in the areas where they have a big presence. Hopefully, when working conditions return to normal, more mega corporations will consider similar investments.
Today’s worried parents might ask their own mothers and fathers how they felt about their kids’ homeownership prospects back in 1995. They might find that some things never change—they just cost more.