Bubble or No Bubble?
Our President, Charles Roberts, Weighs in on What Many Fear is the Imminent Burst of The Denver Real Estate Bubble
Contact us for more information about the real estate market!
The last five years have seen a surge in the metro Denver real estate market as record numbers of buyers look for homes, causing prices to jump. The strength in the market has been so pronounced that a lot of people are asking whether we’re setting ourselves up for another bubble – it’s a good question. While no one can ever predict the future with certainty, I see no evidence that we’re heading for a dramatic downturn in the real estate market any time soon. In other words, I don’t think there is a Denver Real Estate Bubble. Here’s why:
- Prices have risen steadily over the past 35 years.
Even with the continued increase in metro Denver home prices (up another 8.2 percent in the past 12 months) the average inflation-adjusted PITI (Principle, Interest, Taxes, and Insurance) payment made in metro Denver is almost exactly at our 35-year average. This means that while prices have steadily risen, buyers are still able to afford their monthly payments, providing plenty of room for continued home price increases. The simple and obvious evidence for that is the large number of buyers still making offers and closing on properties.
- Transaction numbers are right where they should be.
The number of transactions relative to the population of metro Denver is just about at the 25-year average. At the peak of the bubble in 2006 the number of home sales was about 20 percent above the historical average. When we see the number of closed transactions well above our historical average that’s an indication of an overheated market, as it was in 2006. The number of closed home sales is up only 1 percent in the past year due to the low inventory. No sign of a Denver Real Estate bubble here.
- Mortgage underwriting standards are tip-top.
In 2006, many of the deals were closed with low or no documentation mortgages (“no doc loans” or better yet “liar loans”). Because of these types of loose lending practices, the Federal Reserve says the single family residential default rate peaked at 11.4 percent in 2010. Today, mortgage underwriting standards are among the highest they’ve been in decades. In 2016 the default rate was only 4.3 percent, largely due to the tougher lending standards since the downturn. Tougher lending standards prevent unqualified buyers from purchasing property, which mitigates the chance of the market overheating (fewer buyers means fewer purchases means less chance of the market frothing into bubble territory like it did in the past).
- There’s a reasonable explanation.
Because of relatively high home affordability (metro Denver home prices and wages have increased almost the same amount in the past 45 years and interest rates are still very low) it’s a lot cheaper to buy than rent in our market. This would not be true in a Denver Real Estate bubble. For housing price affordability to return to the levels that we saw in the years between 2000 and 2004, either home prices would have to increase an additional 25 percent or interest rates rise to 6.25 percent. Neither is going to happen any time soon.
- If interest rates go up, home purchase rates may decline..
Despite the current imbalance between buyers and sellers (too many buyers/not enough homes for sale), rising mortgage rates will help to temper the possibility of a bubble as well (they are still near 50-year lows but are expected to rise… someday). “History shows that a rapid rise in interest rates tends to have little correlation with home prices. Rather, rising rates are more likely to contribute to a decrease in home purchase volume,” wrote Mark Palim in a Fannie Mae commentary. So the positive side of a rise in mortgage rates is that it will reduce the number of buyers and therefore lower the chance the market will rise out of control and end up collapsing in a bubble.