A Perfect Economic Storm Has Homeowners Staying Put & Would-Be Buyers Sidelined

by | BiggerPockets.com

Household debt in the United States has now surpassed its 2008 peak. Meanwhile, housing inventory has plummeted and homeowners are increasingly refusing to budge from their homes.

What’s going on?

A perfect storm of economic forces are squeezing existing homeowners to stay put and preventing first-time buyers from purchasing. While longer ownership might seem benign enough, it comes with a host of problems, both on the individual level and for the economy as a whole.

And there’s a tipping point at which economists say we’ll reach a “lock-in effect.”

Here’s what real estate professionals should know about the current winds buffeting housing markets around the country.

Higher Debts

In March, American household debts reached an all-time high of $12.73 trillion (that’s $12,730,000,000,000, to give it fair weight in zeroes). This surpasses the previous peak of $12.68 trillion, seen in 2008.

For better or worse, this debt looks different than it did in 2008. Less of it is composed of housing debt (mortgages and HELOCs), and more of it is student loans and auto loans. (I’ll leave it to you whether that’s a good or bad change.)

Credit card debt is also increasingly a problem. Last month, consumer credit card debt reached $1 trillion. While this figure remains lower than its 2008 peak, economists expect it to surpass 2008 levels within just two years.

Is all this new debt a cause for concern? Let’s choose one debt type to use as an illustration. Consider that student debt delinquencies spiked 17% last year, representing 4.2 million defaulting borrowers, up from 3.6 million in 2015.

Related: How to Win in Real Estate No Matter the Market—Up, Flat, or Down

Higher student debt also raises concerns about lower homeownership rates among younger adults. As debts rise for young adults, it can damage their credit and burden their budgets, making it difficult both to save for a down payment and to qualify for a loan.

As these young adults face ever-bloated student debt, they face another uphill battle on the supply side, with a shortage of starter homes available. But we’re getting ahead of ourselves.

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Homeowners Aren’t Budging

Consider this statistic: the average homeowner tenure today is 8.5 years. Less than a decade ago, it was 3.5 years.

It turns out that moving is actually quite stimulating for the economy. First, it fuels the massive real estate industry: lenders, real estate agents, appraisers, furniture retailers, and home inspectors, to name a few, all rely on home moves.

The stay-put trend started simply enough: In the housing crash, many homeowners couldn’t move. They were underwater on their mortgages. Combine that with weak job prospects, and you have a recipe for far fewer moves.

So the Federal Reserve held interest rates low, and borrowing became dirt cheap. Homeowners locked in low, fixed interest rates. Buyers bought at cyclically low prices, with exceptionally cheap financing. Most housing markets recovered, as did most job markets.

But now home prices and interest rates have risen to a point where many homebuyers see no benefit in trading in their home for another. Why move when you’ve scored such a low housing payment?

Even among homeowners who do move, many are keeping their starter homes as rentals, taking advantage of their cheap mortgages. That’s great for the homeowner-landlord, but not so great for the real estate industry, or the supply of affordable homes for sale.

“People who buy a home and sell their home are the meat and drink of the real estate business, but increasingly, we’re only getting half the sales from them,” explains Glenn Kelman, chief executive of Redfin.

What happens when these starter homes never go on the market for sale? Enter: affordable housing supply shortage.

Imbalanced Inventory

We recently looked at how homebuilders are largely shunning starter and trade-up homes in favor of higher-margin luxury homes. The problem, however, is that there’s now a glut of luxury homes and far too few starter homes to meet homebuyer demand.

Combine that imbalance with low overall inventory, and you get a choking effect. Today’s housing inventory has eroded a shocking 60% lower than its peak in 2007.

Related: The Verdict on Detroit—Is it a Good or Bad Market for Investing?

Between higher debts, higher interest rates, lack of starter home supply, and higher home prices, young adults are waiting longer than ever to buy their first home.

That’s a problem for the real estate industry. Historically, it’s actually young homebuyers who have driven much of the home sale market. Younger adults tend to move more often, as they marry, start a family, expand to accommodate growing children, etc. Then, at a certain age, many homeowners settle in, not to move again until they downsize decades later.

Now, young adults are renting rather than buying homes. That leaves the housing market to be driven by older homeowners, who move far less often.

Starting to see how higher debts, longer tenures, and inventory shortages are all combining to make buying harder for first-time homebuyers?

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Homeowner Lock-In, Renter Lock-Out?

With interest rates expected to rise over the next few years, home affordability will drop even further. The higher interest rates go, the greater the incentive for homeowners to stay in their current homes and keep their current low-interest mortgages.

“Once mortgage rates climb to 5 or 5.5 percent, we are going to start to see the lock-in effect really take hold,” explains Svenja Gudell, chief economist at Zillow.

That means even fewer homeowners trading up and even fewer starter homes going on the market. Combine that with the higher cost of borrowing, and young adults will have even more trouble affording to buy.

With homeownership at 50-year lows, that keeps upward pressure on rents as well. These young adults get hit again from that side: High rents will make it harder to save for a down payment.

All of these trends converge in a steepening uphill battle for young renters hoping to buy their first home. In fact, renters are increasingly saying they plan to rent their next home, abandoning any ambitions to buy a home.

Mobility

Is it all doom and gloom for aspiring homebuyers? Perhaps not. Renting has its own advantages, chief among them mobility.

One of the greatest problems posed by homeownership in general is immobility, and the lock-in effect exponentially worsens the problem. Mark Zandi, chief economist for Moody’s Analytics, explains it like this: “People aren’t moving from weak economies to better economies. They aren’t moving from jobs that aren’t as suited to them to jobs that are. When moving becomes more difficult financially, the economy becomes less fluid.”

Mobility matters: A free flow of people able to move for their best possible job is healthiest for both individuals and the larger economy.

Renters may be able to capitalize on the increasing mobility gap to pursue better careers. They may even get the same tax advantages as most homeowners, if Trump gets his way on his tax plan. But that will be little consolation when young adults become ready to buy their first home, only to be blasted by so many economic headwinds pushing against them.

Have you seen an immobility problem? Or perhaps seen more homeowners keep their starter homes as rentals, after they move? What are your thoughts about the challenges facing first-time homebuyers?

Leave your comments below!

About Author

Brian Davis

Brian is a landlord and long-time rental industry expert, who teaches a free mini-course on passive income from rentals at SnapLandlord.com. He's also preparing to launch a revolutionary rent deduction from payroll service. Swing by his website, SparkRental.com, for free resources and education for landlords, rental investors, and property managers.

22 Comments

  1. Giovanni Isaksen

    Great piece Brian, was just looking at loan data and saw that we’ve added a billion in student debt since 2003.

    RE: ” the average homeowner tenure today is 8.5 years. Less than a decade ago, it was 3.5 years.” Less than a decade ago the foreclosure fraud crisis was ramping and millions of recently new homeowners we’re being thrown out of their homes or mailing in the keys. Also during the bubble many people were trading up frequently and of course flippers were rampant. The long term average tenure is about 7 years so while 8.5 is above average it’s not unexpected given that we’re coming out of a depression as well as for all the reasons you highlighted.

    • Brian Davis

      Thanks Giovanni, and I agree the student debt situation is becoming a serious structural problem in this country.
      That’s all true about homeowner tenure – the main point being that long tenures mean less economic activity for the industry and of course the lack of inventory. Today’s tenure is the longest since Moody’s began tracking it in 2000, for what that’s worth.

    • tim boehm

      Walter, costs are going up, as cities counties and states try to pay government retired workers the start adding fees. In my area alone fees to build exactly the same house have more than doubled. So just to build that starter home I now pay over 15k in fees. And who pays this? you do!

  2. Chris Lidfeldt

    Good article! Wonder about one thing that wasn’t mentioned that came to mind. What happens to all the money being inherited by millennials from their baby boomer parents? Wonder how much of that will help to make big ticket purchases such as homes in the next 5-10 years.

    • Giovanni Isaksen

      Chris, 50% of Boomers have less than $100k saved for retirement and what they do have in the bank isn’t earning much so they can’t afford to help with their kids’ down payment. Millennials are pretty much on their own in aggregate. Good for landlords though!

    • Brian Davis

      Thanks Chris! Baby boomers still have several decades of life left in them on average, so I don’t see a wave of inheritances coming into play in the immediate future. It’s also interesting what Giovanni said, about the surprisingly spare state of boomers’ retirement portfolios. But as boomers leave the workforce and potentially downsize, I do think we’ll see a more immediate effect in housing markets.

  3. John Murray

    Local demographics play a key role in any urban real estate market. Here in Portland Oregon about 120 new residents are arriving every day. Most are between the ages of 25-45. All spells great things for me, for them not so great. Competition for jobs and housing is increasing, student loans, low downs on housing and raising rents causes increase stress. Portland is the least expensive city on the west coast with great promise for some and not so great promise for others.

    • Brian Davis

      One nice thing about an influx of young adults to a region is that they’re 1) more likely to start businesses than older adults, 2) have longer career shelf lives, which means more economic activity and tax paying, and 3) are likely to settle more permanently once they have children. If the Northwest can create a sustainable housing market with thoughtful urban planning and supply growth, they should be in for a prosperous period.

  4. Katie Celia

    This of course is anecdotal, but I’m 32, graduated college in 2007 (that was fun), most of my friends easily make six figures and yet I can count on one hand the number of friends/acquaintances my age who own their homes. Two were thanks to inheritances and the other has a loan from their parents. Granted, I’m in California and the market is expensive and there is definitely a lack of starter homes, but even for those with the funds they seem to prefer the ease of renting. Job flexibility is a big part of it, everyone wants to be able to change course quickly should the tide change, which is definitely a lingering effect of experiencing so much volatility. I’d love to do a house hack and buy a duplex or fourplex in my area but after starting to do preliminary research financially it seems to make more sense to invest out of state where I can buy something for a quarter or third the cost.

    • Brian Davis

      Great commentary Katie! And I’m sorry to hear you’re feeling priced out of local markets. But by all accounts, young adults are certainly renting more, and are less eager to buy their first homes. It’s tough to say whether that trend will last after more millennials marry and have children.

  5. tim boehm

    John, I live just outside Portland and yes it’s crazy, but the biggest cause of all this is government, a government simply out of control. a ten year old boy could build a nuclear power plant, just give him enough money. and that the government answer to everything, more money!

    • Nicollette Roth

      I hear you. And, Oregon in particular is really in trouble financially. It’s just going to drive the cost of living there up and up and up (in property taxes, income taxes, and I’m sure the sales tax that is inevitable). If I was looking to buy my first home, I’d never purchase in Portland (at least not right now!).

  6. Pang Poeng

    Great article. I just purchased my first rental property in Everett, WA, about 15 miles north of Seattle. Still somewhat “affordable” (200-290k range). I’ve noticed neighbors are migrating from northern California. They are moving here for affordable housing and the high tech jobs such as Amazon, Microsoft, Boeing, Biotech. I see a trend in motion here, one that will benefit land lords.

    • Brian Davis

      Thanks Pang! It’s funny, the media makes it sound like “Americans are all fleeing to Canada to escape Trump!” but in reality there are plenty of Canadians moving to the US, and of course people are far more likely to move for economic reasons rather than political ones. The Pacific Northwest seems to be benefiting from a tech job wave, although it also seems at risk of the same kind of too-hot growth seen in San Francisco.

  7. Ben Raygor

    Lots of good food for thought Brian! It would be smart for real estate investors to regularly talk about local demographics and trends with agents and brokers in the areas where they invest. If my wife and I move out of our primary residence in the future, we’ll have some tough discussions about whether it will be better to hold the property as a rental, or sell it in order to use the cash for our new primary residence (the path most people take and generally the least profitable) or to use that cash to invest in other properties. Like you said, it will be interesting to see how the market reacts over the next few years.

  8. C Bumby

    Brian – thanks very much for taking the time to write this article. I found it very thoughtful and useful. I’d be curious to know what you’re investing in these days given your thoughts on the market.

    • Brian Davis

      Thanks C!
      Right now I’m actually spending most of the year overseas, so I haven’t been buying any additional US real estate simply because I’m not there. Instead, I’ve been putting time and energy into my students, for my passive income course.
      What kinds of investments are you making presently?

  9. Kayla Lyon

    Great article. I’m curious to see what happens with general rental prices in the coming months/years. They do seem to be pretty maxed out but of course who can tell when and how big of a correction is actually coming?

    On an unrelated side note- I can’t help but notice the first flag on the blue house in the first picture of the article looks alot like a Brigade of Midshipman (United States Naval Academy) flag 🙂

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