Categories
Buying & Owning a Home Investing Real Estate History Savannah Market

Why We Aren’t In a Real Estate Bubble

WHY WE AREN'T IN A REAL ESTATE BUBBLE

living in savannah georgia

Have you ever seen The Big Short? If not, stop what you’re doing and go watch it.  

If you have, you know the part where Steve Carell’s character, Mark, walks out of a mortgage lending convention and calls up his trading team back in New York to tell them to start buying credit default swaps. He & his team end up buying $500M of credit default swaps after Mark solidifies his fears that banks were mass-buying risky loans with little to no true oversight or regulation. Essentially, he knew the risky loans were going to ruin the entire market before anyone else was really even aware, and therefore decided to bet against those loans for pennies on the dollar so he could get a huge payout after the crash. (https://www.youtube.com/watch?v=ECmh0M-aHPg)

The thing is, everyone always wants history to repeat itself, and humans are naturally predisposed to see patterns in everything.  Sometimes that pattern-seeking behavior helps us, sometimes not so much. In the case of the housing market in 2021, a lot of folks want to think, “Housing prices are high. Last time housing prices were high, there was a big crash. Therefore, there’s a big crash coming.” If we look deeper into the causes of the 2007-2008 great financial crisis (GFC), we will see that this market is very different.

So, what blew up the housing market back then? In short: bad loans, bad lending practices, and too much development. The bad loans were adjustable rate mortgages, and the bad lending practices were that basically anyone with a pulse could get a loan back then. This worked well for a lot of people, until it didn’t. And when it didn’t work anymore, the ensuing collapse of the housing market and mass default of mortgages almost brought down the entire world’s financial system with it.

What is an adjustable rate mortgage and why is it bad?

An adjustable rate mortgage (ARM) is exactly what it sounds like: a mortgage where the rate can adjust. Most mortgages that people take out are at a fixed rate over a thirty year term, but some people take out ARMs. An ARM typically has a lower interest rate for the first 1-5 years, then, for the remainder of the term, the rate will typically increase and fluctuate based on some benchmark rate, like the ten-year US treasury. As the benchmark rate goes up or down, so does the rate of the mortgage.  

An ARM can sometimes be a good thing to get, like when you are pretty certain you’ll end up selling the home before your low teaser rate expires (and hopefully end up selling for more, as is typically the case because the U.S. housing market over the last 80 years has gotten more expensive almost every year).

A lot of people were doing this in the mid-2000s as the housing market skyrocketed. They would get a loan on a low-rate ARM, thinking they would sell in a year or two for a handsome profit.  

As a result, ARM products became very popular in the 2000s and many of the loans saw their low teaser rate expire in 2006-2008 – just as the wider economy was slowing down and the housing market was beginning to collapse.

Source: LPS Applied Analytics and Freddie Mac, https://www.frbsf.org/economic-research/publications/economic-letter/2012/november/housing-boom-mortgage-choices/

This was obviously pretty bad timing for a large number of folks who were betting on being able to get out of their ARMs before the teaser rate expired. Folks who intended to sell were not able to do so, and folks who intended to refinance into 30 year fixed rate mortgages were also unable to do so as their houses were unable to appraise as they became less valuable. Many folks were unable to come up with enough money to pay the higher rates and simply walked away from their homes.  

What about bad lending practices?

The widespread use of ARMs does not fully account for the problem. ARMs in and of themselves are not bad; a well-qualified buyer should be able to cover the higher payment that results from the expiration of the teaser rate. The problem in the mid-2000s is that many of these buyers were simply not qualified to purchase a house.

If you’ve bought a house since the GFC, you probably know what a pain in the ass it is to get a mortgage. Your lender would have asked you for bank statements, tax returns, may have asked you to explain large transactions in your bank accounts, etc. They do all of this to make sure that you are actually capable of making payments on the loan that they are going to give you.  This is a good thing!

Back then, many banks simply were not doing this. Buyers were getting loans without being made to prove any of the income or asset declarations they made on their loan applications.  The practice became so prevalent that it even got the name, the NINJA loan: No Income, No Job, No Assets. This wasn’t a problem during the teaser rate period of an ARM mortgage, but as soon as the rate increased many of these borrowers immediately defaulted on their payments.

The Mortgage Bankers Association (MBA) puts together a system of tracking how easily buyers can get credit to purchase homes, which is called the Mortgage Credit Availability Index (MCAI).  In October of 2006, this index hit a peak of about 900. (The index currently sits at 125.)

https://www.mba.org/news-research-and-resources/research-and-economics/single-family-research/mortgage-credit-availability-index 

How could they afford to do this?

You may be thinking to yourself, “Wouldn’t it be prudent for the banks to make sure that their borrowers can repay the loans?” Yes, it would be – if the bank intended to keep the loan on their books. But they sold these loans to other, larger institutions like pension funds, investment banks, & Fannie Mae & Freddie Mac. So once these loans were off the bank’s books, there was no more risk (for the bank). These big players were not diligently inspecting the loans that they were buying. There is a LOT more to it than this – for more detail, you can always watch Margot Robbie explain it.

So what does all this mean?

You don’t have to be an economist to know that the price of any item in any market is driven by supply and demand. Lending practices in the mid-2000s caused a massive increase in demand as millions of buyers who would not normally have been able to buy a home suddenly entered the market.  

So far, we’ve touched on the demand side of the equation. Let’s take a look at supply. The chart below shows single family homes that are permitted for construction going back to 1960.

You can see that there’s lots of natural variability, but that, for the most part, the average is about 1,000,000 units started each month, and almost never more than 1,400,000 until about 2002. Houses started then began to rise all the way to a peak of 1,800,000 in 2006, before falling off a cliff at the start of the financial crisis before most economists even knew what was happening.

Builders were building more homes to meet demand for new homes, naturally. But much of this demand was artificial demand fueled by these bad lending practices. When the music stopped and the bottom fell out, suddenly there were too many damn houses! Check out that graph after the recession officially ended in late 2009 – it took ten whole years for housing starts to crawl back up to the long term average of 1,000,000!

Why is today different?

First, almost nobody is getting ARMs. Why would you, when you can get a 30 year fixed at 3%?  Not much else to say there; the ARM is essentially dead for the time being.

Second, mortgage bankers are properly underwriting loans. Remember that Mortgage Credit Availability Index we talked about earlier? Go take another quick look at that. Don’t believe me?  Apply for a loan yourself and see how many documents your lender makes you turn in! By and large, only qualified borrowers are getting loans, and they’re getting them at fixed rates, meaning their payments won’t increase.  

Third, supply. Remember the housing starts chart a few paragraphs ago? Take another look – the oversupply of homes that we had in 2006 has all been consumed by the market and then some. We now have an undersupply of new homes. So many builders went bankrupt in 2006 that it really has taken the better part of a decade for that industry to recover, and in that time, the millennial generation has started to enter their prime home buying years.

The chart below shows what’s known as “months of inventory”.

In a balanced housing market, there should be about six months of inventory on the market. Currently, across the entire US Housing market, there are just over 6 months of inventory – this number was below 4 months at the peak of the COVID-related supply crunch.  

In the Savannah market specifically, months of inventory is around 2 months at the moment. Savannah is still very much suffering from lack of inventory, and local price increases over the last 2 years have been driven largely by this lack of supply.  

What does all this lead me to believe?

  1. Increases in housing prices have not been driven by bad lending, and are more likely a result of a lack of supply.
  2. As supply catches up with demand, it is likely that the rate of growth in housing prices will slow down to more typical historic levels of about 3% price growth per year nationally.
  3. I believe that Savannah in particular will see higher than average price growth due largely to the fact that Savannah has been and will continue to experience more population growth than the larger United States.  For more information on this, check out another blog here.

Actions speak louder than words though, so here’s what actions I’ve been taking: I’ve more than doubled my personal Savannah area real estate holdings in 2021. Could I be wrong about all of this? Maybe – but I have enough conviction in my beliefs that I’m willing to bet a substantial amount of money that I’m right.

Written by: Pat Wilver

READY TO GET STARTED?

We’re here to assist every step of the way.

CALL ⋅⋅ TEXT ⋅⋅ EMAIL

Categories
Real Estate History

Systemic Racism in Real Estate: Denial of Credit as a Tool of Oppression

SYSTEMIC RACISM IN REAL ESTATE

denial of credit as a tool of oppression

The echos of slavery and institutionalized racism still reverberate through American public discourse, but perhaps nowhere are the effects still felt than in the disparity in household wealth between black Americans and white ones. Historic discrimination in real estate, specifically the availability of credit, is a major component of this.

For the vast majority of Americans, home ownership represents the largest component of household wealth. Check out this chart from the visual capitalist:

Savannah Realtors | Trophy Point Realty Group

We see that in the middle class in America 61% of wealth is held in real estate, or more specifically a primary residence. Now, how does the middle class buy real estate? We buy real estate using a mortgage of course. None of us have $200k under the mattress do we?

These days pretty much everybody knows that a mortgage is typically for 30 years, but it didn’t used to be like that. Until the 1930s home loans used to be for terms of 3 to 10 years, with interest paid throughout the term of the loan and the full balance of the loan coming due in full at the end of the term. These were called “straight loans.” Straight loans were typically not paid off at the end of the term, they were refinanced.

But in 1929 the great depression happened. The great depression was characterized by a total seizing of credit markets known as a “credit crunch”. A credit crunch happens when nobody wants to lend money. I won’t go into the reasons why nobody wanted to lend money back then, that’s really outside the scope of this blog (and my expertise), but suffice it to say that people couldn’t get loans for anything. This had a huge effect on home prices and the rate of home ownership. Why?

If homes are too expensive to buy with cash, and it becomes impossible to get a loan to buy or refinance a house, doesn’t it make sense that the rate of home ownership will fall as new buyers aren’t able to obtain new credit and current owners aren’t able to refinance their loans? As new buyers are priced out and current owners who can’t refinance are foreclosed on, suddenly there is no demand at all for houses – which causes the market price of homes to crater. This is obviously a huge problem.

The solution to this problem was a new-deal stroke of genius: the 15 year amortized mortgage securitized by the federal government (this later became the 30 year mortgage most people use today). Basically, the government decided that the fall in prices and the rate of home-ownership was a problem, and they decided something had to be done. Since banks didn’t want to give credit, the government formed a semi-private corporation backed by the U.S. government that would provide liquidity to credit markets (basically, the government would enter the business of extending credit to home-buyers.) This corporation was (and still is) called the Federal National Mortgage Association (FNMA), or Fannie Mae, and Fannie Mae exists to help the average American buy a home.

So, the federal government solved the problem of home-ownership for middle-class America, and started the idea of the “American Dream” in the 1930s. But this dream was one reserved for white people only. Here’s how:

Despite the egalitarian spirit of the new-deal, 1930s America was still a segregated society steeped in racism. This racism extended to the ways that people could receive credit. You see, people and communities of color were believed to be riskier investments for mortgage lenders than white people, and this racism was codified by the federal government itself. Enter the Home Owners’ Loan Corporation (HOLC) and the practice of redlining.

The HOLC was started in 1933 and existed to refinance these “straight loans” into 15 year amortized loans that borrowers could more easily pay off. This wasn’t free money though — the HOLC wanted to see most of these loans paid back. To do this they underwrote each loan, which means that somebody was responsible for doing some analysis to determine a potential borrowers likelihood of paying back the loan. To help underwriters, the HOLC published maps which illustrated a borrowers likelihood of paying back the loan. Geographic areas were graded from A to D, A being most desirable and D being least: and D typically meaning majority Black neighborhoods.

We can still look at these maps today, and they provide a lot of insight into what institutionalized racism looked like in the 1930s and the impact that it still has to this day. My company does real estate in Savannah, GA, so we’ll focus on Savannah for the rest of this article. You can check out the Savannah maps by clicking this link, or check out the screenshot below.

 
homes for sale in savannah

Out of 499 total loans that HOLC made in Savannah, 252 were in white-only areas, 110 in black-only areas, and 137 were in mixed neighborhoods. Getting a HOLC loan often made the difference between a homeowner losing their property or holding on it it. These folks who were able to keep their properties because of a HOLC loan were able to eventually pass that wealth down to their families. The opportunity to create generational wealth was given to over twice as many white homeowners in Savannah than black ones.

The numbers are troubling, but the verbiage used to describe each neighborhood is just as abhorrent. Check out the description of the Ardsley Park neighborhood:

 
savannah real estate
real estate savannah

To this day Ardsley Park is predominately white and affluent, though the most affluent families now tend to live in the historic district. Below is the description of the southern end of Cann Park/Jackson Park, between 52nd St and 47th. The area today is predominantly Black and remains underdeveloped:

 
savannah real estate
savannah realtors

How do we know that this institutionalized racism in the housing market still effects people of color today? Check out the graph below:

 
realtors savannah

We as a nation still have not righted the wrongs of centuries of stolen labor and another century of institutionalized racism. It’s not something that can be fixed overnight, or easily. Home-ownership is the American Dream, but for almost all of American history this dream has been placed out of reach for people of color. Systemic racism in real estate lingers to this day and is a major factor in the massive disparity of wealth between white and black America.

Author: Pat Wilver

READY TO GET STARTED?

We’re here to assist every step of the way.

CALL ⋅⋅ TEXT ⋅⋅ EMAIL