Should Real Estate Investors Sleep Soundly Despite Stock Market Scaries?
Scared about the recent stock market roller coaster? I’m not. In fact, I sleep like a baby regardless of what the market is doing. I am a boring real estate investor after all!
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But I realize some of you may still be wondering, “Wait! Isn’t there a connection between stock markets and real estate prices? Don’t they both fall simultaneously at times? And shouldn’t we be afraid of that?”
According to Richard Barkham, global chief economist and head of Americas Research for CBRE, real estate investors should not be worried about 2018’s dismal performance in world stock markets—unless policymakers overreact.
“There have been two instances in the past 30 years—1987 and 2000—where large stock market losses have come out of the blue at a time of robust economic confidence and low inflation,” Barkham wrote in an analysis with CBRE co-researcher Wei Luo, senior analyst of Capital Markets.
Barkham goes on to point out the results of Black Monday (Oct. 22, 1987), where the Dow Jones Industrial Average (DJIA) dropped 22 percent.
I distinctly remember that I was sitting in my MBA class at Ohio State when I learned it had happened. I would have been oblivious if my professor, a typically calm British chap, hadn’t seemed so alarmed.
Black Monday occurred at a time when the world still hadn’t gotten over the economic horrors of 1979 to 1982, when interest rates topped out at 18.5 percent. Imagine buying a home and paying over 18 percent in fixed mortgage interest!
Your monthly payment on an $82,500 home (the average cost in 1981) would have been north of $1,000. That’s over $2,500 today if adjusted for inflation! (And don’t forget to add taxes and insurance.)
That being said, please don’t complain too loudly when mortgage rates hit 5 or 6 percent, my friends.
Post-Black Monday, governments responded by lowering interest rates and increasing government spending. This led to a housing boom… followed by a crash, according to Barkham.
CBRE’s analysis also brought up what happened in the wake of the dot-com bust. The DJIA lost 27 percent of its value in the first three quarters of 2002 alone. There was a mild recession in many economies, too. However, as this graphic shows, real estate remained relatively unscathed.
What were you doing those years?
I was flipping houses. This was before it was cool. Back then, the word “flipping” was only used when talking about coins, pancakes, and birds. My buddy Jack and I were having the time of our lives doing it though, and our business was entirely unaffected by the bursting of the dot-com bubble!
But what about the connection between the market and real estate prices during the Great Recession? Did the stock market crash cause housing prices to drop in 2008?
I think it’s important to look at cause and effect here. Although we could call attention to dozens of issues, I’ll avoid turning this into a detailed analysis. I only want to make one point: the housing crash was not the direct result of the stock market crash.
In the mid-1990s, the U.S. government (in its great wisdom) decided that anyone who could fog a mirror deserved to own a home. Washington mandated new mortgage qualification rules, and banks complied. Almost anyone could buy a home with little or no money down.
No job? No problem!
Bad credit? That’s fine.
Tell us your salary—no income verification’s necessary. We’ll believe you!
No cash for a down payment? No money for closing costs? Just let the seller bump up the price. That should cover it!
Unsurprisingly, homeownership shot up. In 1995, the percentage of homeowners hovered in the mid-60s—just a percentage point or two above the historical low of 62.9 percent in 1965. But less than a decade later, rates topped out in 2004 at a record of 69.2 percent!
A friend of mine bought a $600,000 McMansion second home in the town where he grew up. He wanted to show off to people who bullied him as a kid. Here’s the kicker: he was only earning $45,000 a year!
We all know what happened next. The McMansion guy made only one or two payments before the bank began foreclosure proceedings.
Sadly, that process was repeated across the fruited plain.
Homeownership plummeted from 69 percent to a 48-year low (but more normative) 63 percent. What’s more, a million new renters entered the market for every percentage point drop in homeownership (per The Wall Street Journal in July 2015).
Thus, a new multifamily boom was born! So was an awesome website and community called BiggerPockets. (Those are stories for another day, though).
My main reason for detailing the effect of these three market drops is to call attention to the fact that real estate investors don’t have to panic when they hear bad stock market news. We also needn’t be jealous when we learn about our friends making great returns from stocks.
Many of us were tempted (and some succumbed) when Bitcoin’s value skyrocketed a few years ago. But we’ve discussed this before. I’m done with speculating on assets that have no determinable underlying value.
Real estate investing, when done in a strategic and smart fashion, is one of the most reliable and predictable sources of wealth generation and perpetuation on the planet. I’m not knocking our brethren in other market sectors. But this is where I’m hanging my hat, and I encourage you to join me.
What’s your take on investing in real estate vs. the stock market? How worried are you about recent stock market fluctuations?
Leave a comment below.