Many people looking into investing in real estate will look at a chart of historical prices and decide that it’s just too risky for them to get into it. After all, prices have been on a tear since 2009, and nothing seems to be slowing them down. You don’t want to be the person who buys at the top of the market.
But is that logic sound? Or are there other reasons why we can expect house prices to continue to rise? In other words, is it being driven by rampant speculation, or are market participants following what the fundamentals say?
In this post, we’re going to argue the latter. While interest rates are going up, the basics of the real estate market remain almost unchanged over the last five years. We’ve seen some turbulence, but the high prices will likely stay, and probably go even higher before we reach 2030, giving investors the appreciation they want.
So, what are the reasons why the housing market continues to rise? Let’s take a look.
A Limited Supply Of Housing
Currently, we are witnessing a limited supply of housing on the market. Inventory is low and people are having to accept pretty much whatever price sellers ask for.
The limited supply of housing comes from several factors. The main issue is the cost of borrowing for developers. Companies are paying high prices for house construction, and they don’t know whether they are going to make a solid return.
The other issue is massive competition for space in the most desirable areas. The middle of Nebraska isn’t seeing housing supply limited, but places where the economy is booming, like the Bay Area in San Francisco, are seeing rents and appreciation skyrocket.
A Growing Population
The other major factor driving up prices in the US and elsewhere is the growing population. Historically, the population grew, but the age pyramid was geared towards younger people who lived with their parents, not by themselves.
Now children are rarer, but the number of people wanting to form households is going up significantly. A combination of migration and smaller family size is putting pressure on builders to provide the right kind of accommodation in the right areas where people can work or find jobs.
That’s part of the reason why there is a spending spree among real estate investors to transform defunct commercial property into residential. These buildings are often in ideal locations for housing (as long as local zoning laws permit redevelopment).
Lower Interest Rates
Another factor driving the housing market higher is lower interest rates. The Fed and other central banks are already indicating that they will reduce the interest rate with inflation falling. That means that people will be spending less on their mortgages over time, improving their financial situation considerably.
These lower mortgage payments will make taking out large mortgages more cost-effective. And, naturally, that will increase competition for the housing stock, again pushing up prices.
Some bears believe central banks will continue to increase interest rates to keep inflation under control, but that scenario seems unlikely. Official figures suggest that disinflation is taking hold and that central banks will want to turn on the spigot a little to prevent outright deflation that could cause a debt crisis.
A Strong Economy
Another factor in house prices’ favor is the unusually strong economy. Data suggest that US GDP grew at a rapid clip at the tail end of 2023, not just avoiding recession but also posting some of the strongest growth in its recent history.
Even more remarkably, many other economies around the world seem to be in recession, including the big players like Japan, Germany, and the UK.
Driving the strong economy is real wage growth and buyer confidence. Companies are looking at their books and seeing that nominal revenues are increasing significantly, a bullish sign that is encouraging them to hold onto their workers. If things start to turn south, that situation will reverse itself, but at the moment, it is looking good.
The fact that more people have work and income means that more individuals are eligible for mortgages. And that means that we might see significantly more demand for them going forward, pushing up house prices further.
Inflation
Many people also now view real estate as an inflation hedge. Instead of buying t-bills or gold, investors want to get into property because it is a tangible asset they can use to build their wealth.
How much inflation will continue to rise remains to be seen. As discussed, the headline figure is falling, but it could shoot up again if commodity prices rise or we see a strong return to global growth.
High Investor Demand
It is also worth noting that there is strong investor demand for properties. Individuals wanting to get out of stocks and find better assets are looking for ways to get into the market. And that, in itself, is driving change.
The number of people currently in the system is high and getting higher. More investors are using their dollars and trying to eke out returns.
This is good news for anyone who owns real estate in this environment. Having more dollars chasing the same amount of housing stock means that prices will rise and people compete with each other to get the best deals.
The number of property investment channels on social media is growing all the time. That’s why so many people are now getting into the field and having some success in doing so.
Low Alternative Investment Returns
At the same time, many people are concerned about low investment returns elsewhere. Property can often provide investors with net yields of more than 20%, while conventional investments might only achieve 5% to 10% in a good year. What’s more, real estate makes it more likely that investors will receive a monthly income. It doesn’t depend on company performance or the stock market as a whole.
That’s why many real estate investors hold onto their assets during market downturns. If they are cash-flowing well, the fact that asset prices are falling at the margin isn’t important to them. In fact, it could be a sign that they need to buy more.
Some of the coolest real estate markets in the US are where people least expect them. Lower prices often mean higher long-term returns, but it is all about finding assets that will appreciate.
Government Policies
Of course, government policies could also drive the housing market higher. Officials might worry about a downturn this year or next and start pumping more liquidity into the system. This, they might believe, would have the same effect as it did after the financial crisis, pushing down interest rates and allowing people to borrow for less.
These policies can be surprisingly strong, with some economists believing they are the main reason why house prices remain above the long-term Case-Shiller index trend, even in 2024. Furthermore, the government has every incentive to keep prices high. If people start to experience falling equity in their homes, they are more likely to vote out the politicians who caused it.
Geography
Finally, regional variations may cause house prices in some areas of the country to continue rising. These hotspots can drag the entire country up and be a real engine or driver for the economy at large.
It’s likely regional variations will continue. Up-and-coming places will see continued growth while those that are falling behind could go sideways.
Wrapping Up
This discussion makes it seem like house prices can do nothing but go up. And you will often hear unsophisticated investors saying things like “Real estate always goes up in value, so property is an excellent investment for the long term.”
But that overlooks some important points. The first issue is that property prices don’t always rise, even over the long term. In fact, prior to the 1990s, the average price of a home followed the growth in wages in lockstep. It was only more recently that there was a divergence and more of the money started flowing in the direction of investors.
It’s also worth noting that we live in a world of tail risks. Big things come along regularly that spook investors and the housing market, impacting returns.
Previously, investors thought the main problem would be policy changes. Politicians, they argued, were highly likely to introduce new rules, making life more difficult for anyone in the market.
However, we are also seeing non-policy matters, such as climate change, pandemics, and war, also rear their ugly heads. These events will undoubtedly shape the housing market in the future.
If you decide to start flipping or you want to get into the sector, hedge your bets. Keep your assets inside a limited liability company, withdraw your profits after each deal, and keep them separately in your personal finances. Don’t take any unnecessary risks or do anything just because that’s what everyone else is doing. Try to be contrarian and right.
