Thursday, July 07, 2022
About a month ago, I put you on high alert that the runaway residential real estate market could come to a screeching halt.
Why? In short, we can thank interest rates nearly doubling in a span of six months, median home prices hitting new highs month after month, wage increases waning, recession risks mounting, and stock prices collapsing, all of which make a new “home sweet home” all the more unaffordable and unattainable.
Yeah, I know. We all hate to hear it, but asset prices don’t go straight up forever. Mark my words: real estate will be the next reminder of this market reality.
The good news? We can profit from downward price movements, too. And based on the latest real estate data points, there’s still plenty more ahead.
Here’s how to trade it…
First things first, I want to provide important data perspectives to make sure you’re aware how far and how fast home prices have risen.
We just witnessed the 39th consecutive month of record high prices for homes in the U.S. Even the village idiot knows that’s not sustainable.
What’s more, if we zoom out a little and look at longer-term home price increases, they’ve soared 20% over the last year and 38% over the last two years. Again, not sustainable.
So what happens when real estate prices start correcting?
In short, they shift into reverse in a hurry, which makes perfect sense since there’s no real-time ability to liquidate. Instead, it’s a negative feedback loop, whereby lower selling prices lead to lower bids and lower selling prices and lower bids.
If you don’t believe me, look at history.
After the last housing crisis, prices reversed almost as fast and far as they advanced. You’ll also see that the current housing price boom exceeded the last one. So it stands to reason the coming bust will be at least as severe, if not more. Especially when we consider the next data point…
During the first quarter, roughly one out of every 10 homes in the U.S. (or 9.6%) was a “flip” — bought and sold within a year. That’s the highest level since 2000. Again, not sustainable.
To put those numbers in perspective, the percentage of flippers checked-in at about half that level at the beginning of last year.
With profit margins on the decline, thanks to soaring interest rates and inflation (i.e — labor and material costs), all that flipping is going to come to a quick stop.
You remove 5% to 10% total demand from the system and price declines aren’t likely, they’re guaranteed.
If you’re still reluctant to believe me, consider this third and final market dynamic…
As I’ve shared with you in relation to countless other assets and market segments, leading indicators matter.
When it comes to real estate, prices and conditions in the priciest markets (think New York City) often serve as the proverbial canary in the coal mine.
And guess what? The outlook is rapidly changing.
As Frederick Warburg Peters, the president of Coldwell Banker Warburg, noted in his latest report, “Throughout the second quarter, that slowdown has accelerated: fewer signed contracts, fewer bidding wars, more price reductions, and a gradual increase in available inventory.”
Translation: Look out below!
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Ahead of the tape,