EP243: Why the Real Estate Crash Won’t Save Your Wallet

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Did you hear that crash? Just us? Okay, maybe it’s not a literal crash, but it’s a very real sound, and that’s the housing market crash. 

But it’s not all bad, because the housing market crash is making homes more affordable, right? WRONG. Today we are going to educate you, change your perspective, and help you understand why the real estate crash might not be the lifeline you think it is. 

Let’s start by examining a burning question: how come a real estate crash doesn’t make homes more affordable for the average person? Because it seems like it should (logically), so this topic is not only confusing, it’s also a little controversial. Most people seem to think that a downturn in the housing market is beneficial, but unfortunately as you are about to find out, this just isn’t the case. 

A big reason for this is something we like to call the Housing Paradox. What this means in a nutshell is that the housing crash doesn’t lead to more affordable homes due to high interest rates. 

Sick of hearing about interest rates in the news? We are too, but probably not for the same reasons. You see, during market fluctuations, financial institutions like to protect themselves and their risk factor by raising interest rates as a precautionary measure. These heightened rates translate to increased borrowing costs, offsetting any potential savings from reduced home prices, even if they were to decline.

Remember how we said we are sick of hearing about interest rates in the news? Well, the reason is because historical data actually shows that the reduction in home prices during previous market crashes has frequently been modest compared to the overall market valuation. 

Take, for example, the 2008 financial crisis, which marked one of the most severe housing collapses in recent memory, where average house prices dropped by only 20% from their peak. While this decline is no laughing matter, it definitely falls short of the substantial price reduction necessary to significantly improve access to homeownership.

Unless prices were to plummet by an unlikely 97%, the majority of individuals would still require a mortgage to purchase a home, subjecting them to the lending criteria we talked about earlier.

Have you ever seen the movie, “The Big Short”?  If you haven’t, the movie focuses on the events leading up to the 2008 financial crisis and the select few who foresaw the housing market collapse and actually profited from it. In the movie, the main characters independently discover the impending crisis and bet against the housing market through complex financial instruments known as credit default swaps. 

You can watch it on your own time, but the point here is that these big crises are often largely misunderstood, and what you see on the news and social media might not tell the whole story. 

So let’s explore the financial implications of a housing market crash on both prospective buyers and renters. While it might seem intuitive to assume that plummeting prices would universally benefit everyone, the reality is far more complex.

You see, following a crash, banks and lending institutions typically adopt way stricter lending practices, tightening their requirements. So, what does this mean for hopeful homeowners?

Even if home prices drop, the path to homeownership becomes increasingly challenging for many and qualifying for a mortgage becomes an uphill battle.

Yeah, and this tightening of credit isn’t arbitrary either. Lenders, in response to market volatility, prioritize risk aversion, shielding themselves from potential future losses. 

Unfortunately, this translates to diminished opportunities for securing a home loan unless applicants have a near perfect credit score, a substantial down payment, and stable employment history. As you can imagine, it’s pretty tough to have all of those.

Which brings us to our next group of people – renters. Our renter friends aren’t any better off either; in a crashed market, property owners begin to struggle, their mortgages in turn need to get paid, and hard costs such as labor and maintenance continue to increase.

So to meet these rising costs, landlords naturally increase rent. This in turn negatively affects renters, who start feeling the financial squeeze, making it even more impossible for them to save for the large down payment they need for a home, and so on and so on, until the cycle continues. 

Speaking of movies, this reminds us of Groundhog Day. We’re sure you’ve seen this classic where a man keeps living the same day over and over, making the same and different mistakes in a frustrating cycle of endless monotony. Unfortunately for many, this is exactly what the current housing market feels like. 

So what can you do to be successful in this current state of the market? Well, it’s really important to focus on laying down a solid financial groundwork: work on boosting your credit score, start saving up for that down payment, and take the time to explore all the different mortgage options out there. 

And don’t forget to think outside the box a bit too – consider checking out government programs, maybe teaming up with someone for co-ownership, or even looking into some of those less traditional housing markets that might just surprise you with their affordability.

You might even want to pause and think about if homeownership is even the right move at all for you, especially if it is a rental or investment property. In our humble opinion, there are other very exciting and promising options available. To learn more about those, go watch this video on how we are turning land into millions of dollars.