Credit: We are nearly a decade removed from the Great Recession that devastated the world economy and yet not too much has changed. Experts agree that some combination of subprime mortgages and mortgage backed securities played a role in the crisis. And now new fears are mounting that another housing bubble is forming comparable to the one seen in 2008. One of the biggest problems is that home prices have surged while mortgage rates and wage growth near record lows.
This is glaringly evident in major cities around the world but none more than China. Fast rising prices coupled with increasing household debt levels are overheating the property market that could eventually threaten the global economic recovery. In a recent report, UBS highlighted 6 cities exposed to bubble risk which they so aptly named the UBS Global Real Estate Bubble Index. Naturally Hong Kong is featured on the index with Vancouver, London, Stockholm, Sydney and Munich rounding out the list.
Home prices in these at risk areas have jumped by an average of 50% since 2011, well above the standard increase across other major cities. If you look at some of these cities, particularly London and Sydney, they have attracted a lot of foreign money from Asia. This has been a one of the leading drivers of rising home prices for cities even outside this list. Traditionally overvalued real estate markets like San Francisco have been flooded with Chinese investors in recent years, making the Bay Area the most unaffordable region in the United States. For reference, San Francisco was just below bubble territory according to UBS, but was still deemed as overvalued.
Clearly, the surge in housing prices can’t solely be blamed on foreign investment. Housing prices have also been influenced by an imbalance of a basic economic concept; supply and demand. A severe lack of supply coupled with increasing demand has pushed prices higher since the turn of the decade. In fact, home prices in America today are 1% shy of their pre crisis levels with June of this year marking 50 straight months of home price appreciation. The recent uptick in housing starts has helped ease these fears, but not enough to put the problem to bed completely. Starts are running at an annualized rate of roughly 780,000 in 2016, nowhere near the 1.2 million unit per year historical norm.
The other obvious problem is historically low mortgage rates. When the cost of borrowing is low, consumers are more willing to borrow to make big purchases, note the demand glut in the property market. But when rates rise this starts a whole new problem that could have severe economic ramification. The impact of higher rates would be twofold; home prices would likely move lower while mortgage payments increase. Even with a rate hike, there would still be a large number of potential buyers that don’t have the capital or equity to meet the down payment requirement.
Some experts say the current situation evokes shades of the Great Recession, however the only glaring similarity is the existence of a bubble. The main difference with today’s market is that these home prices are not being driven by shady mortgage products, but instead a severe lack of supply and near record low rates. Homeowners also have more equity in their homes than in 2008, which means they are less likely to default on their loans. These dynamics unique to the current market conditions continue to put upward pressure on home prices.
After years of surging house prices and record low mortgage rates, the seed has been planted for another housing crisis. It might not be identical to the one in 2008, but the aftermath could be equally as devastating. One lesson we can take away from this growing threat is that new regulations must be put in place to prevent ongoing bubble formations.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
