If you were to ask me to describe the ideal environment for real estate investors and new real estate buyers, right now could be it. After two years of a white-hot real estate market, finally, real estate investors are seeing better deals.
Please know that I’m completely biased for real estate. Roughly half of my net worth and passive investment income comes from real estate. In addition, there’s no asset I appreciate more than our primary residence because it shelters my family. And nothing is more important than family.
For those of you who are bearish on real estate, I welcome your point of view!
The Ideal Environment For Existing Real Estate Investors
Here are some new reasons why I think real estate prices will continue to go up this year. These reasons are real-time evolutions of my 2022 housing market predictions. I still forecast another ~8% rise in the national median home price. However, the real estate market will likely be flat to up only a couple percent in 2023.
1) The stock market is no longer making people money
The major U.S. stock market indices have all sold off so far in 2022. Some individual companies have given back all of their gains from the past one or two years. The stock market correction is particularly brutal in the technology sector.
Due to the increased fear of round-tripping a stock investment, more capital will flow towards hard assets like real estate. The desire for capital preservation is going way up.
One of the best things to come out of the pandemic was strong investment gains. But if you give up all your investment gains since 2020, your demeanor will sour.
Bad life + lose money = life sucks.
2) The stock market has corrected by the ideal amount
In the post, How Does Real Estate Get Impacted By A Decline In Stock Prices, I wrote that a 10% – 15% stock market correction provides for the maximum real estate outperformance versus stocks.
When the stock market is down 10% – 15%, investors are jittery, but not in panic mode yet. As a result, investors still have hope that everything will turn out OK. Money will continue to pour into both stocks and real estate. However, more investors will look towards more safe haven investments.
The reason why real estate outperforms stocks the most when the stock market is down 10% – 15% is not because real estate prices are doing so well. It’s mainly because real estate prices haven’t fallen as much, if at all.
Good luck finding any home in this environment down 10% – 15% like the stock market. Instead, real estate prices are likely flat-to-up 1% – 2% in the first two months of the year. The stock market up 10% – 15% would also be great for real estate. However, at such performance levels in the stock market, the real estate market is likely underperforming.
The longer stocks stay depressed, the more capital will flow towards real estate. If the stock market then rebounds back to all-time highs, real estate investors today will benefit even more.
For example, fund flows into Fundrise, my favorite real estate investing platform continues to be strong. During the 2018 correction and 1Q2020 collapse in stocks, Fundrise funds outperformed. As a result, more investors are investing in private real estate funds for more capital preservation and less volatility.
Below is a historical performance chart of Fundrise versus the Vanguard Total Stock Market ETF and Vanguard Real Estate ETF. As you can see, in 2018, Fundrise outperformed the stock market ETF by over 14%.
3) Higher inflation with continued negative real mortgage rates
It would be one thing if we had high inflation and high mortgage rates. But we have high inflation and still relatively low mortgage rates. In fact, real mortgage rates have turned negative because the rate of inflation has risen faster than the rate of mortgage rate increases.
Let’s rewind time to January 2021 when the CPI was at 1.4%. Back then, the average 30-year fixed-rate mortgage was at 2.77%. In other words, the real mortgage interest rate was +1.37% (2.77% – 1.4%).
Today, the average 30-year fixed-rate mortgage is at about 6%. However, the latest inflation print was 8.1%. Therefore, the real mortgage interest rate today is negative 2.1% (6% – 8.1%)! Mortgage rates have simply not increased as much as inflation.
As a result, the demand to borrow money to buy real estate will continue to be robust. Anybody just focusing on how much mortgage rates have gone up since the bottom is not thinking things through. It’s like someone bashing the high cost of living of a city while ignoring high wages.
Any rational person would much rather borrow money with a negative real interest rate than a positive real estate rate. With a negative real interest rate, inflation is paying off your debt for you. Veteran real estate investors are licking their chops in this environment.
4) Cashed up consumers and corporations
One of the main drivers of real estate demand is income and job growth. It is clear to anybody who has to commute to work or send their children to school that traffic is back to all-time highs.
Strong job and income growth are what is pushing inflation higher, not the other way around. In addition to labor market strength, the U.S. consumer has more cash than ever before.
The combination of higher incomes and strong cash balances means more protection from a downturn. It also means the average consumer can afford larger down payments and higher mortgage payments. The percentage of cash buyers and institutional buyers is going up, not down.
A Better Environment For New Real Estate Investors
Now that we’ve discussed some new data as to why real estate prices will likely continue higher, let’s now focus on why the real estate environment has improved for buyers.
1) Declining pace of real estate price appreciation.
It is not healthy for real estate to go up double-digits a year, as it did by ~18% in 2021. Getting into a bidding war could mean you overpay for a property literally nobody else is willing to pay for. It’s called the “winner’s curse.” If you so happen to be at the top of the pyramid and the real estate market softens, you might not be able to recover your investment for years.
In an overheated real estate market, more inspection contingencies are waived to give buyers a chance. If you know what to look for, waiving a home inspection contingency may be OK. However, not every home buyer is a seasoned veteran. If you’re a first-time home buyer trying to get into a hot market, you might end up saddled with thousands of dollars in unexpected repairs.
When the Global Financial Crisis hit in 2008, it was the marginal buyer with small down payments and weak financials who first lost their homes. But their losses snowballed into greater losses for even the strongest homeowners. A healthy real estate market means having the most financially sound homeowners across all wealth levels.
As a buyer, you should welcome a more normalized market where you have a greater chance of buying what you want at a reasonable price. If you’re looking to upgrade your primary residence, your time is coming. Even if you are cashed up, you don’t want to feel like you overpaid.
2) Geopolitical uncertainty is good for real estate investors.
Real estate tends to outperform whenever there are negative geopolitical events such as terrorism, wars, bombings, and other unfortunate events. The more saber-rattling by men with vast resources, the more attractive real estate becomes.
When the January CPI came in at 7.5% – the highest in 40-years – the 10-year bond yield shot up to 2.05%. However, when news hit of 150,000 Russian troops amassed at the Ukraine border, the stock market sold off and bonds went up, sending the 10-year bond yield back down to about 1.93%. The 10-year bond yield has risen due to more hawkish guidance by the Fed. But negative real mortgage rates continue.
Sadly, the worse the geopolitical event, the better it usually is for real estate. Not only will more capital flow towards hard assets, but mortgage rates will also tend to decline, making real estate more affordable.
As a savvy buyer, you can use geopolitical uncertainty as a bargaining tool to get a better deal. You see, most people naturally believe war is bad for all risk assets. In fact, geopolitical events are temporarily bad for stocks. But as you’ve just read, geopolitical events are a net positive for real estate.
In other words, you may be able to invoke fear into a seller’s heart by discussing your concerns about destruction and a bigger war. Unless the seller reads Financial Samurai, they will probably get swayed by your argument to cut their price. You can just point to the sell-off in stocks as proof.
The price cut might not happen before getting into escrow. However, you can certainly mention geopolitical events in your price concession letter. This is where being knowledgeable can save you thousands of dollars compared to the average person who is not versed in contract negotiations.
Frustrated Homebuyers Due To Low Inventory
About every two years, my itch to buy another property grows. Given I bought a “forever home” in mid-2020, the time is coming for me to once again look for a great deal.
It’s easy to see what’s available thanks to automatic alerts from Zillow and Redfin. Unfortunately, there’s not a lot of quality inventory to choose from just yet. It seems like inventory might be structurally lower for years to come as more people hold onto their homes for longer.
With such little inventory, you must be patient. As a potential homebuyer, use the combination of higher mortgage rates, geopolitical risk, and a weak stock market to your advantage. In the meantime, learn as much as you can about real estate investing as possible.
If the S&P 500 starts correcting by more than 20% and stays down for more than three months, I expect the housing market to stall out completely. In other words, I don’t expect to see any price growth. After a 30% stock market correction for longer than six months, I expect real estate prices to fall by up to 10%.
Although I believe we are currently in the ideal environment for real estate investors, the environment can change in an instant. Pay attention! Russia’s economy and stock market has already collapsed.
Invest In Real Estate More Surgically
If you’re looking for an easy way to invest in real estate, check out Fundrise. Fundrise offers private real estate funds that invest mainly in single-family and multifamily rental properties. The investment minimum is only $10, so it’s easy to start small and build a larger position without leverage.
Real estate is my favorite asset class to build wealth during times of uncertainty. People want to own real assets that provide a function, generates income, and will hold its value over time. As tech stocks and growth stocks get crunched, real estate outperforms.
I’ve personally invested $810,000 in private real estate to diversify and earn more passive income. For most people, investing in a diversified real estate portfolio is the way to go. Private funds are also great because they are much less volatile.
Readers, do you think now is the ideal environment for real estate investors? Or do you think I’m being totally biased and delusional? Do you think as stocks sell off more money will flow towards hard assets? Have you been able to use the fear of war and stock market losses to your advantage when buying real estate? For more real estate insights, join 50,000 others and sign up for my free weekly newsletter.