Everyone has heard about the housing market in 2008, and the damage that was done to the economy because of the bubble. But do you know why the bubble popped? A housing bubble is when the price of an asset (home) is rising faster than the fundamentals can justify and is often driven by overly optimistic speculation or loose financing.
In 2008 there were a few factors that led to the housing bubble.
- Predatory mortgage lending
- Interest rates
- Supply and demand
In the early 2000s banks were giving mortgages to people who would not be able to make their monthly payments, leading to the homes being foreclosed on. The Mortgage Credit Availability Index (MCAI) breaks down the ease of obtaining a mortgage. The higher the index, the easier it is to get a mortgage, the lower the number the harder it is. Before the housing bubble, the index was at 378 and in 2006 the index hit a high of 869. In Dec of 2021, the MCAI was at 126. The volume of loans in 2006 originated for borrowers with less than a 620-credit score was over 375 billion dollars. In 2021 that number is drastically lower, at only 75 billion dollars. The government has also implemented programs to help first time homebuyers who have little cash or low credit scores.
The interest rates being given on these mortgages were also very high, which made making mortgage payments even harder for some families. The average interest rate on a 30-year fixed rate mortgage in 2008 was around 6%, versus the average interest rate in 2021 was 3% – which is a record low for mortgage interest rates! Increased affordability of a mortgage has increased the amount of people looking for a new home, which has also driven up demand.
In real estate, supply and demand are measured in months’ supply of inventory, which is based on the number of current homes for sale compared to the number of buyers in the market. The normal months’ supply of inventory for the market is about 6 months. Anything above that defines a buyers’ market, indicating prices will lower. Anything below that defines a sellers’ market and prices normally appreciate. From 2006 to 2008, the months’ supply of homes on the market was averaging 7 months, but that number did reach highs of 11 months. The months inventory currently sits at an all time low of 1.9 months.
During the housing bubble, as home prices began to rise, homeowners were using their homes like ATMs, refinancing with the rising prices allowing them to pull large amounts of money from their home. When the prices of homes began to fall, it created a negative equity situation. From 2005 through 2007, Americans pulled out $824 billion dollars in equity. Many people defaulted on their payments and had to foreclose. Today, homeowners are letting their equity build, with cash out refinances at a third of what they were in 2006.
In 2021, housing supply is at an all time low, interest rates are low, and the market is competitive. The growth over the last couple of years has been stable and healthy, so there will be no 2008 ending to this housing market.