Real Estate – How High Can It Get?

July 22, 2021

You may have noticed a significant increase in real estate prices over the past year. Perhaps you were selling your home, buying a vacation home, or realized how hot the market is right now after talking to your neighbor. The pandemic has played a large part in the real estate boom.

This chart above compares home price changes in the year leading up to the pandemic (blue bars), to home price changes during the pandemic (red bars). As you can see, prices have doubled across the board.

What Drives Real Estate Prices?

What is driving real estate prices higher? Why has the pandemic had such an impact?

  • Interest Rates – Lower interest rates decrease borrowing costs, which allow buyers to afford more. This attracts additional buyers to the market, drives up demand, and puts upward pressure on home prices. It’s simple economics.
  • Inventory – Supply chain issues have reduced home inventory as new construction has been put on hold. This, too, drives up prices due to a lack of supply to meet the increase in demand. Again, it’s simple economics.
  • Demographics – Shifts in lifestyle based on age, gender, income, etc., can have an impact on prices. Demand for homes in the suburbs has increased over the past year, with more people working remotely and enjoying flexibility in where they work.
  • Legislation – Although not a big driver currently, actions by the government such as tax credits, deductions, subsidies, etc., can have an impact on the real estate market to an extent. These incentives can spur more demand for homes.

How Long Will This Last?

We all know the adage, “What goes up must come down.” Although that holds true with physics, it does not necessarily hold true with the real estate market. There is unlikely to be a “crash” in the real estate market like during the financial crisis. In the years leading up to 2008, home prices skyrocketed due to deficiencies in the financial system, primarily around subprime lending. The current housing boom is driven more by supply and demand, as noted above.

The chart above shows current housing statistics compared to during the thick of the pandemic. Prices increased by double digits as total listings fell by approximately 40% year-over-year. Since June 12, the drop in listings has started to shrink but still has a way to go to reach pre-pandemic levels.

This chart shows the steep increase in demand during the pandemic and a fall in demand more recently, indicating the supply and demand imbalance is beginning to correct itself. Home prices may continue to increase over the near term as interest rates remain low, but not nearly at the same pace as during the worst of the pandemic. Publicly traded real estate has followed a similar pattern. The Dow Jones US Select REIT (Real Estate Investment Trust) Index was down 24.9% in the year ending March 31, 2020, but is up 64% from April 1, 2020, through June 30, 2021.

The Dow Jones U.S. Select Real Estate Securities Index represents equity real estate investment trusts (REITs) and real estate operating companies (REOCs) traded in the U.S.

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