A house’s real estate for sale sign is seen in front of a home in Arlington, Virginia, November 19, 2020.

Saul Loeb | AFP | Getty Images

No one could have predicted it. Not the economists, not the real estate agents, and especially not the nation’s homebuilders. But a pandemic caused an emotional run on housing unlike any other.

Now, one year after the Covid-19 crisis shut down and warped so much of American life, things are still unpredictable, but the outlook isn’t bright for housing. In fact, it looks like the perfect storm for a correction.

Home prices are overheated, mortgage rates are rising, the supply of homes for sale is anemic and consumer confidence in the housing market is falling. Pandemic-related mortgage bailouts are set to expire this summer.

A year ago, home sales ground to a halt. No one wanted to buy or sell or even enter a home, given all the physical and economic uncertainty that Covid-19 brought. But just a few months later, housing hit the gas pedal, and prices followed.

The frenzy was hugely emotional, as the nation saw most aspects of daily life suddenly confined to its properties. Space became a major asset. It was also fueled by very attractive mortgage rates, which set more than a dozen record lows.

After plunging nearly 18% from March to April and another 10% from April to May, sales of existing homes shot back up nearly 21% in June, according to the National Association of Realtors.

“The sales recovery is strong, as buyers were eager to purchase homes and properties that they had been eyeing during the shutdown,” Lawrence Yun, NAR’s chief economist, said at the time. “This revitalization looks to be sustainable for many months ahead as long as mortgage rates remain low and job gains continue.”

Yun was right – but his prediction still turned out to be too conservative. Homes sales were not only sustainable, they were robust. By August sales were running at the fastest pace since 2006.

Americans, unsure when they would be able to get back out in the world again, were looking for more indoor and outdoor space. They wanted dedicated rooms for working and schooling at home. Manufacturers of accessory dwelling units, which are small backyard tiny houses, saw demand triple. People wanted additional space and, yes, some solitude from all that family time.

The strong demand for housing, however, came at a time when the supply of homes for sale was already low. Much of that was due to a still-slow recovery in homebuilding from the Great Recession. When the pandemic hit, sellers pulled back, not wanting to let anyone in their homes nor to move themselves. What followed were drastic changes in every facet of the market.

Mortgage rates

The average rate on the popular 30-year fixed mortgage began 2020 right around 3.75%, according to Mortgage News Daily. It then fell at the start of the pandemic in March, shot up briefly in April, when the first economic stimulus was announced, and then dropped precipitously throughout the rest of the year, setting more than a dozen record lows.

Now rates are moving up again, as another financial stimulus passed, and the economy begins to finally open up significantly. The recent jump in employment should keep rates on an upward trajectory.

“The home-sales market will experience countervailing forces of the higher push from more jobs, but also the pull back of higher mortgage rates,” said Yun, after the February employment report was released. “We will have to wait to see which force will be stronger.”

Yun noted that in 2018, the economy saw strong job creation, but home sales fell because mortgage rates rose from 4% at the beginning of the year to 4.6% by the year’s end.

Homebuyers have already lost considerable spending power. To be specific, a homebuyer loses $23,250 in spending power with a mortgage rate of 3.25% versus a 2.75% rate, according to a recent calculation by Redfin.

Home prices

Low mortgage rates last year, combined with low supply and high demand for housing, lit a furious fire under home prices.

By January of this year, prices were up more than 10% year over year, according to CoreLogic. Prices are now rising at the fastest pace since 2006. In some markets, like Seattle, Phoenix and San Diego, the gains are even larger.

These enormous gains have led some to claim the housing market is overvalued. A recent report from Fitch Ratings claimed prices nationally were 5.5% overvalued.

“Slowing employment recovery and still-high unemployment levels are not supportive of long-term sustainable price growth,” wrote Suzanne Mistretta, senior director at Fitch Ratings.

Affordability has weakened substantially, especially for first-time homebuyers. Prices have risen most at the low end of the market, where supply is leanest. The homebuilders have also raised prices, given higher demand and higher construction costs.

Newly built homes have always come at a price premium, but now about 75 million households (roughly 60% of all U.S. households) are not able to afford a median-priced new home, according to a fresh calculation by the National Association of Home Builders.

Weaker affordability is the prime reason for a potential slowdown in housing this year. Sales are already slowing, as mortgage rates rise. Given how much housing demand was pulled forward last year, sales could be considerably weaker this year.

One bright side of higher prices, however, is higher home equity. Homeowners are house rich, gaining a collective $1.5 trillion in 2020, according to CoreLogic. That’s an average gain of $26,300 per homeowner, since the fourth quarter of 2019.

“This equity growth has enabled many families to finance home remodeling, such as adding an office or study, further contributing to last year’s record level in home improvement spending,” said Frank Nothaft, chief economist at CoreLogic.

An epic housing shortage

In addition to high prices, buyers this year are facing the worst supply situation on record.

There were nearly half as many homes for sale at the end of February compared with a year earlier, according to a new calculation by realtor.com. Low supply was exacerbated by a drop in the number of new listings to come on the market in January and February, due to exceptionally icy weather in much of the country.

The result is that this is currently one of the most competitive housing markets in history.

Nationwide, 58% of home offers written by Redfin agents faced bidding wars in January, up from 53% in December. That makes nine straight months in which more than half of all offers saw competition. 

Urban flight? Not exactly

While there was plenty of evidence that high-rise dwellers in New York and San Francisco fled the cities last summer, the urban flight story line doesn’t hold up entirely. There may have been an exodus from large buildings, and some renters did opt to buy single-family homes, but really it was more of a relocation and reconsideration of living conditions than anything else.

People wait to visit a house for sale in Floral Park, Nassau County, New York, the United States, on Sept. 6, 2020.

Wany Ying | Xinhua News Agency | Getty Images

People didn’t flee cities, they simply bought larger homes in the city or relocated to smaller cities where larger homes are more affordable. The work-from-anywhere conditions caused some to head south to more amenable climates.

“For all the talk of an urban exodus, the housing market in cities is as hot as we’ve ever seen it, especially for single-family homes,” said Daryl Fairweather, Redfin’s chief economist. “There are plenty of buyers out there with deep pockets who are coming out ahead financially during the pandemic. They want a house with lots of space while they are still working from home, but they also want to live in a walkable area near urban amenities as shops and restaurants reopen.”

Home price growth in affordable cities like Detroit, Cleveland and Baltimore are far outpacing price growth in New York City and San Francisco. New York, however, is already seeing demand return. Sales contracts in Manhattan for residential real estate spiked 73% in February year over year, according to Douglas Elliman and Miller Samuel. and the bargains are fading.

Builders are struggling

What the housing market really needs now is more houses, but the nation’s homebuilders are struggling.

They were woefully unprepared for the surge in demand last summer. Some builders had laid off workers and shut down operations at the start of the pandemic. They didn’t expect such a strong recovery.

A house under construction is seen in Culver City, a neighborhood of Los Angeles on November 21, 2020.

Chris Delmas | AFP | Getty Images

Material prices, especially for lumber, have skyrocketed. A shortage of skilled labor and a lack of buildable lots are ading to the cost pressures. Higher prices have added about $26,000 to the construction cost of the average new home, according to the National Association of Home Builders.

As a result, some builders, including several of the nation’s largest, are actually slowing production, hoping prices will ease soon. The number of single-family homes permitted but not started jumped 9.6% in December and was 28% higher than a year earlier, according to the NAHB’s chief economist, Robert Dietz. 

It has exacerbated the housing shortage.

“We estimate right now, even with households that have been consolidating, as young adults have been moving back with their families, we still think we are at a deficit of roughly around 900,000 units in the U.S. in terms of what we need just to get back to normal in terms of single-family,” Ivy Zelman, CEO of housing research firm Zelman & Associates, said on a recent webcast from Willy Walker of Walker & Dunlop.

The rise of single-family rentals

The supply crisis in for-sale homes gave the single-family rental market an enormous boost during the pandemic. It will only get stronger, as all signs indicate.

Rents for single-family homes are rising at a strong pace, and occupancy is much higher than for multifamily.

Single-family rental REITs, like American Homes 4 Rent and Invitation Homes, have seen incredibly strong returns. They are now building homes specifically to rent. The share of all homes specifically built for rent is rising steadily.

A for rent sign advertising a row house in northeast Capitol Hill, is pictured on Monday, August 26, 2019, in Washington D.C.

Tom Williams | CQ-Roll Call, Inc. | Getty Images

“We’re talking to builders that might have built a hundred homes for rent, and next year it’s going to be a thousand,” said Zelman. “The magnitude of growth coming in the industry, and the partnership with single-family operators is really the strongest asset class out there. I call it the prettiest girl at the dance.”

Doubt and innovation

The outlook for housing in 2021 is mixed. Some sectors, like single-family rentals, should thrive, while the for-sale market is facing a bevy of headwinds. Affordability is No. 1 on that list.

Consumer confidence in the housing market fell in February, the most recent monthly sentiment survey from Fannie Mae. People think house prices will continue to go up. As a result, the share of consumers who say it’s a good time to buy a home dropped from 52% to 48%.

The share of respondents who think it’s a good time to sell also fell. That is likely because they are concerned about buying another home when prices are so high, and because they don’t want to lose their low mortgage rate and trade it for today’s higher rates. Fewer sellers will only exacerbate the supply crunch.

While very little is predictable anymore, given the slow march to widespread vaccination and “normalcy,” there is no question that Americans’ attitudes toward their homes have changed.

All of these difficulties have bred innovation, too. Technology in the home and in-home construction are both on steroids now. This could well drive much-needed changes for labor, materials, sustainability and resilience.

The pandemic drove a new desire for clean-home technology. Homebuilders stepped up immediately. One of the largest, Pulte Homes, announced several consumer-inspired, healthy features, including whole-house water filtration, hospital-grade air filtration, antimicrobial quartz countertops and touchless faucets.

“A recent PulteGroup survey found that more than half of consumers (60%) say the most important attribute in how their home can support them is health and wellness,” said John Chadwick, chief operating officer at PulteGroup. “As a direct result of the pandemic, consumers are seeking homes that will help them stay healthy.”

Another major builder, Lennar, announced a new partnership with Ring, expanding its connected home features with everything from smart security and temperature control to products that alert the homeowner when there is a leak.

An entire suite of smart features can be put into the home during construction. Part of that was inspired by research that said homeowners were fine doing some DIY projects but didn’t want to have to have professional installers in their homes for more high-tech products. That sentiment was of course intensified by Covid.

The housing shortage also jump-started the fledgling business of 3D-printed homes. Several companies are now jumping in with plans for whole 3D-printed communities. One of them, Icon, which had already printed a small community in Austin, Texas, for the homeless, just completed its first for-sale community in partnership with developer 3 Strands.

“We have more people asking for us to build houses than we know what to do with now. Every construction system we have is booked up for the next 24 months,” said Jason Ballard, CEO of Icon. “Our company will more than double in size this year. It’s every entrepreneur’s dream.”



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