Five things to know about rising house prices

Benjamin Keys, a professor of real estate and finance at the Wharton School, gives his five main takeaways from the recent increase in house prices.

computer generated image of house in a bubble.

As housing prices surge to new records with no end in sight, few economists believe that the current run-up is a bubble that’s about to burst.

Experts widely believe that rising home values will offset any drag from the expiration of the foreclosure moratorium, which ended on Sept. 30. The median price of existing homes now stands at slightly more than $350,000, according to the National Association of Realtors. In Philadelphia, the median home price has risen 48% in the last decade, and economists forecast even more price increases ahead.

Benjamin Keys, a professor of real estate and finance at the Wharton School, talks about the reason for the high prices, new home construction, mortgage rates, and advice on purchasing a home.

The culprit for high prices: supply and demand

In short, today’s high prices are due to a combination of supply and demand. 

On the demand side, you have a boost in demand through millennial buyers hitting their peak home buying years as they are getting married, having kids, and they have been able to save up during COVID. 

The second group affecting demand is baby boomers. They are retiring and buying their second homes. We know there was a lot of early retirement during COVID. So, this group is looking for the benefits of retirement living, such as living part of the year in a warmer climate. 

So, on the demand side you have these demographic shifters which were exacerbated by the pandemic.

Fewer listings turn hopeful buyers to newly constructed dwellings

On the supply side, you have a very limited number of new homes over the past few years.

Home building bottomed out coming out of the financial crisis, with a consensus view that we had overbuilt. But the consensus isn’t so simple. We had overbuilt in certain markets and not in others. If you look at where the job growth has been strong, in those markets new housing hasn’t kept up at the same pace. These shortfalls are due to a combination of labor costs, materials, immigration, local policy, and local zoning rules. 

Low mortgage interest rates compete with price gains 

Another positive demand factor is low interest rates. The Fed’s extraordinary efforts to bring down interest rates produced record-low 30-year fixed mortgage rates. 

For those potential homebuyers who previously wouldn’t have been able to afford monthly mortgage payments, lower interest rates may now make homeownership a little cheaper than some renting alternatives. 

While rates have come back up a little bit from record lows, they are extremely low by historical standards. So, that brings a group of people into the mortgage market who might not otherwise be there.

That said, mortgage lending standards have stayed rigorous. You still need a strong credit score and full documentation of your income and assets. For those families whose incomes have been disrupted by COVID, it is not an easy time to qualify for a mortgage. 

In many markets, however, house prices are growing faster than interest rates are falling. None of that bodes well for prospective buyers who don’t have a lot of cash. Higher prices and stiff competition have broken the rungs on the traditional homebuying ladder, where people start small in a starter home and trade up for more square footage and amenities. Thinking about the challenges to affordability, it’s obvious: If new construction comes in at the top of the distribution, then how are lower income families going to enter the housing market with a starter home? 

First-time buyers compete with those armed with cash and no contingencies

The competition in the market today often pits the two demographics groups against each other. 

In one corner, you have millennials who are very dependent on loans. They are up against repeat home buyers who are selling their previous house at a premium and may have a lot of cash on hand to purchase their next house. Investors and iBuyers are also offering cash.

Sellers prefer to take an all-cash offer. A lot of properties are selling above their asking price and having all cash speed and flexibility is often the determining factor in which bid is accepted. 

Advice remains the same: Crunch the numbers

It is an obligation of someone considering buying a house to carefully think through the pros and cons of homeownership. 

Understand the usual financial considerations such as mortgage payments, closing costs, and insurance. But also think about the costs of maintaining the property. Ask yourself, ‘Do you have the risk tolerance of time, energy, and money of maintaining a house?’ and contrast that with the risks of rising rents. Renters have really felt the squeeze over the last 10 years, with rents growing even faster than housing prices. There are also non-financial factors such as the desire to control and customize your living space. Ultimately, the tax-adjusted costs of homeownership, along with possible benefits of asset appreciation, should be compared to expected rent burdens.