There WAS a Bubble, But Not in Real Estate

There was a housing bubble, but it’s not what you think. The bubble was in lumber, not real estate. Some people thought the rising real estate prices was a repeat of the housing bubble that led to the 2008 crisis. Then futures prices for the July delivery of Random Length Lumber hit a record high of $1711.20 on May 15th of 2021.

Reminiscent of a Housing Market Meltdown

Economists and investors speculated that sky-high prices would cripple the real estate market. Builders were forced to raise home prices and stopped selling homes altogether for fear of misjudging the costs and selling too cheaply. Builders were adding escalation clauses to their construction contracts to protect themselves from losses. However, the rising prices and escalation clauses result in lost sales as potential buyers were priced out. The potential for escalation was reminiscent of subprime adjustable-rate mortgages. The rising rates that led to rising mortgage payments while home values declined became untenable for borrowers which fueled the rise in home foreclosures.

The Low Down on Lumber

These prices are the result of a perfect storm between the pandemic, a beetle plague, labor shortages, and high demand. The pandemic caused lumber mills to temporarily close. But demand surged in the summer of 2020 due to renovations, DIY projects, and homebuyers. Prices continued to rise so home builders and lumberyards delayed purchases in hopes that prices would come down. However, demand from homebuyers is continuing to accelerate in the spring and into the summer of 2021 so prices pushed even higher. Prices were exacerbated by a beetle plague that diminished the lumber harvest, as well as our current labor shortage. As we’ve expected, we’re now seeing a pullback from the highs.

The Writing on the Wall – Literally

Lumber companies such as Rayonier Inc. (RYN) and Weyerhaeuser (WY), along with homebuilder ETFs (XHB) all started forming reversal patterns around mid-April. In the trading world, reversal patterns signal a reversal of the dominant trend. Savvy investors were positioning themselves for a short.

Timber Prices are Yelling ‘Timber’

Lumber prices became central to theinflationdebate as evidence of runaway inflating prices that would quickly spread to other consumer markets. Then the price of lumber fell hard in mid-June to below $1100 and has continued its downward trend.  However, experts don’t see prices hitting pre-pandemic levels. Rather, we’ll likely see a relatively high floor on prices for the time being as home builders try to erase the countries deficit of housing.

The Housing Shortage

Freddie Mac estimated in April that the U.S. is about3.8 millionhomes shy of meeting our current housing market demand. The housing deficit has lingered since the housing market crash in 2008. According to the National Association of Realtors (NAR), the deficit is at5.5 millionwhich includes 2 million single-family homes, 1.1 million of 2-4 unit buildings, and 2.4 million buildings with at least five units. The NAR urged policymakers to include housing investments in President Biden’s proposed infrastructure package.

However, even when home building picks up due to more affordable lumber prices, and the housing investments are included in an infrastructure package, we’re still a long way off from closing the gap on the demand-deficit housing gap. Demand is likely to continue with the prevalence of low mortgage interest rates.

The two graphs below show that in the Geneva Lakes Wisconsin area, while we’ve seen a small uptick in the number of listings, the average days on market (DOM) has dropped significantly. Meaning the pent-up demand is absorbing them as fast as they become listed.

Homebuyers are Reining in a Runaway House Market

Potential homebuyers in the Lake Geneva WI area on a whole aren’t caught up in a bidding war feeding frenzy. The chart below shows that many overzealous sellers were hoping to take advantage of this past year’s enormous appreciation. However, the reality is that most of them either weren’t getting any offers and therefore had to reduce their listing price, or they weren’t receiving full-price offers and instead accepted a lower-priced offer. Furthermore, even if a buyer offers over the asking price, if they’re contingent on financing and the home doesn’t appraise for what they offer, they’ll have to come down in price anyway or make up the difference in cash. The downtick in sold median sale price corresponds with the downtick in reduced days on market. There’s only so high that buyers are willing to go above fair market value, orzone of possible agreement (ZOPA), which has organically reined in prices.

Lending Standards Are More Stringent

Borrowers today are in much better financial shape. Leading up to the 2008 housing crisis, only a quarter of borrowers had very good credit (above 760). An eighth of the borrowers were considered “subprime” (below 620). Since 2019 however, approximately 60% of borrowers had credit scores above 760. That number climbed to 73% in the first quarter of 2021 with only 1.4% going to subprime borrowers.

Bottom Line

With the shortage of homes and continued low-interest rates, homebuyer demand is real and will continue. High demand and low supply mean that home prices are will continue to hold their value. The lumber bubble has burst, which bodes very well for the overall real estate market.

If you’re looking to buy a home in Southeast Wisconsin, such as Lake Geneva, Delavan, or Burlington area, now is a great time as the sharp rise in value will level out.

Home value in the Geneva Lakes Wisconsin area saw a 13.8% appreciation from last year. If you’re looking to sell your home, you haven’t yet missed out on this greatseller’s market.