What Happens When Real Estate Bubbles Burst—Perspectives for Buyers and Sellers
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There is no disputing the fact that the country has been in the midst of an exceptionally hot housing market. There is some debate, however, about whether it is a true real estate bubble, and if it is, how extreme the consequences will be when it bursts.
Those who did not experience the fallout from the 2008 mortgage crisis that led up to the “Great Recession” might be wondering about what a real estate bubble is, and more importantly, what it means for them as buyers or sellers if one happens again.
Experts seem to agree that conditions are somewhat different now that they were in 2008, so the results will not be as catastrophic for most people. But it does help to understand what is going on, and how to protect one’s investment whether buying or selling.
Real Estate Bubbles, Defined
A hot housing market, also called a seller’s market, happens when demand for homes is greater than the number of homes on the market. Competition among buyers is fierce, with bidding wars and houses being snatched up as soon as they are put up for sale. As with any commodity, this pushes prices up.
Desperation sets in for some buyers and they up their risk by bidding beyond their budget, waiving contingencies, or taking on more debt than they can safely afford. Some will do just about anything to get into a house.
Soon, asking prices are way over what homes are actually worth—but buyers are buying anyway. And just like a bubble, the market can take only so much of this pressure before it bursts.
A number of different economic factors can be responsible for bursting a real estate bubble, which forces supply and demand back into balance. Increasing interest rates will make it harder for people to get financing, especially for homes with exaggerated asking prices. A general economic downturn tends to mean less disposable income and possible joblessness. If people can afford to buy at all in this market environment, they are typically less willing to take risks. All of these things combine to reduce demand. As a result, prices will drop too, and home values along with them.
What a Burst Could Mean for Buyers
So what does a real estate bubble burst mean for buyers? For those who are still looking for a house, prices should be dropping. There may be more options available, allowing them to be pickier and afford more house for the money.
Interest rates, however, have already started to rise, which could make securing a loan difficult. As always, buyers will always benefit by working to improve their credit and by saving up a substantial amount as a down payment.
For some, relocating for a job is an example, waiting to see what happens when the bubble bursts is not practical. While they might consider renting as an option, rents too have been affected by price increases. Buying a house can still be a good idea, provided it is approached sensibly—with one’s financing in order and an eye toward the best value for the money. This is an instance when the help of an experienced realtor can make a big difference.
Those who bought recently during the hot housing market may find that their house’s value has dropped well below what they paid for it. They might find it hard to recoup their investment if they try selling in the near future. But if they plan to stay put for the next several years and can afford their mortgage payment, they should be just fine.
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What’s In Store For Sellers
While it might seem like a high selling price would be a windfall for a seller during a hot market, that is not always the case. After all, they have to move somewhere when they sell their home, and prices are likely inflated on their new house too. But someone with a lot of equity in their home who is downsizing or moving to a more affordable area can come out ahead.
If the value of the house has dropped considerably since its purchase, they may be forced to take a loss or stay put until the market is more favorable for moving.
Real estate investors and flippers, on the other hand, are not looking for a residence, but for a place to rent out or rehab. If they have the cash or the financing available, they can find some exceptional bargains when prices drop. Their main concern will be whether or not demand stays high.
Once the bubble bursts, sellers can not expect to ask as much for their homes. And they will not have buyers lining up begging them to accept their offers. On the plus side, interested buyers will likely have their financing in order.
So is This 2008 All Over Again? Not Quite
Even if the United States is in a bubble, many experts believe that when it bursts it will not be as bad as in 2008. They expect prices to come down more gradually, or perhaps even just stagnate.
When the bubble burst in 2008, there were about 5 million homes too many on the market or under construction, and home values dropped fast—in some areas by as much as 50%. Risky “subprime” and adjustable-rate mortgages left many owing more than their houses were worth and unable to afford their mortgage payments. Buyers defaulted and homes all over the country went into foreclosure.
When the market corrects this time, some people will undoubtedly find themselves in a similar situation. There is no guarantee, but overall the economy does not appear to be headed in the same direction. This is partly thanks to there not being the same level of excessive borrowing as in 2008.
That said, some sort of correction is likely. As of mid-2022, interest rates are going up and the market is showing some signs of cooling. How long will it take to correct? And will the bubble burst or will it be more of a slow leak? No one knows for sure.
What we do know is that people everywhere are still looking for a place to call home. Our best advice is to stay informed about the real estate market and work with an experienced realtor like the agents at Berkshire Hathaway HomeServices Select Properties. Whether buying or selling, they can help guide you to make the choices that are best for your family and your investment.
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