- What is real estate inflation?
- Why is real estate inflation so high right now?
- The best way to invest in the current market
Q: What happens to real estate prices in inflation?
A: Housing prices increase during periods of inflation. However, experts have been warning for years that the housing market bubble will eventually burst. Inflation could indirectly lead to lower prices because of a recession and a subsequent housing market crash accompanied by higher mortgage interest rates.
In late October of 2022, CNN announced that the housing market had reached its peak and that prices were beginning to fall.
Could this be the end of real estate inflation?
Is the bubble finally bursting?
Experts seem to think so – but it might not be the catastrophic crash that so many homeowners are dreading. Goldman Sachs predicts a price drop of about 10%, while Wells Fargo has made similar forecasts.
While some have predicted more extreme dips, the consensus is that the housing market will remain strong, continuing its generally upward trend despite a short-term correction.
But how is this even possible? Inflation continues to rise in the United States and across the world. Doesn’t high inflation cause higher real estate prices?
As many of us are discovering, it’s not always that straightforward. Many factors can lead to price declines during inflation for real estate.
Inflation can have many knock-on effects on the real estate world, indirectly lowering prices even when everyone expects them to rise.
But how does real estate inflation work?
What do you need to know to invest intelligently during this period of uncertainty? Is real estate still a solid inflation hedge?
Let’s find out…
- What is real estate inflation?
- Why is real estate inflation so high right now?
- The best way to invest in the current market
What is real estate inflation?
If you already know what inflation is, you probably have a pretty good idea of what real estate inflation means.
Inflation occurs when more dollars chase fewer goods. It’s the age-old law of supply and demand.
If many people want to buy something, the price of that asset goes up. If fewer people want to buy something, the price of that asset goes down.
Inflation enters the equation when the value of each dollar decreases. This occurs when the amount of money in circulation increases – most notably via money printing.
If the value of each dollar goes down, then it takes more dollars to buy a home. As a result, the price of properties across the United States goes up – even if the inherent value of that property stays the same.
But how could a property maintain the same value if its price is going up?
Well, to determine the true value of a home, you have to compare it to something similar – like another home of the same type and location.
In other words, your home isn’t increasing in real value during periods of real estate inflation because other homes are increasing at the same rate.
If you sold during a period of real estate inflation, you would have a ton of cash – and that’s great. But to buy back into the market and purchase a similar home to live in, you’d have to give that money right back to pay the inflated costs.
What this means is while you can certainly make a ton of money off property sales during periods of real estate inflation, you also need to consider what that cash is worth.
Here’s a hint:
It’s worth nothing.
Why is real estate inflation so high right now?
There are other factors to consider with real estate inflation:
- The higher cost of building materials
- The higher cost of labor
- Supply chain issues
- No incentive for construction companies to create new homes
Higher Cost of Building Materials
When the price of everything goes up, it costs more to build a home.
Unfortunately, this means you won’t be able to use those materials as a real estate inflation hedge. For example, the cost of lumber, concrete, and other building materials has increased dramatically with inflation in recent years.
Higher Cost of Labor
The cost of labor is also increasing, as employers need to pay their workers more money to deal with the rising cost of living. If they don’t give their workers raises, they’ll find somewhere else to earn a living.
If it costs more to build a home, these added costs must be passed on to the buyer.
And if it costs more to build a home, there’s less of an incentive for construction companies to engage in their business.
Supply Chain Issues
This means that fewer new houses are being built in the current inflationary period – especially when you factor in supply chain issues that make it difficult to bring materials to building sites.
Even if construction companies are willing to pay for expensive materials, having them delivered is another matter altogether.
All of these factors lead to fewer new homes. This in turn means that there is a higher demand for existing homes. And according to the laws of supply and demand, this pushes prices higher.
The Coming Housing Market Correction
But is real estate inflation truly continuing to rise?
As previously noted, we are approaching a major correction in the market. Even as inflation and the cost of living continues to rise, housing prices are slumping slightly in the United States.
Many experts believe prices will drop considerably within the next few years.
But why is this happening and how is this even possible?
During inflationary periods, you would expect the real estate inflation rate to increase rather than see a price correction.
However, there are several factors to consider here:
- Rising interest rates
- Possible job losses
- Sellers willing to accept losses
Rising interest rates
Rising mortgage rates are putting pressure on the real estate market, and this is something that Federal Reserve Chair Jerome Powell has openly acknowledged.
As the Federal Reserve continues to increase interest rates, the cost of home ownership is increasing. In some cases, monthly mortgage payments have increased by thousands of dollars per month.
Buyers are wary of this, and they may be discouraged from getting into the housing market as a result. This in turn decreases demand, lowering prices.
Possible job losses
As we head towards the possibility of job losses and stagflation, many workers will have to put their dreams of home ownership on hold.
Numerous companies have cut workers this year, including Twitter, Meta, Snap, and Robinhood.
The Bank of America warned in October that the US economy will soon start losing 175,000 jobs per month.
No one can afford to buy a home if they don’t have a job. It’s that simple.
Sellers willing to accept losses
This ties in with the first two points:
With job losses and rising interest rates, many Americans are starting to go under. Faced with no income and higher mortgage costs each month, some are being forced to sell their homes at a loss.
They just need to get the money and get out of the market.
When this starts to happen on a wide scale, the housing market as a whole takes a hit.
We know what you’re thinking:
“How can inflation cause lower house prices while simultaneously causing higher housing prices?”
Hear us out:
When people start to experience a higher cost of living, they’re left with less money in their bank accounts at the end of each month.
This in turn makes it difficult to save, which means that the possibility of home ownership drifts further and further away.
This also leads to fewer new buyers entering the market, contributing to less demand and lower prices.
Of course, in the “bigger picture,” inflation can also cause recessions or even depressions, indirectly causing housing market crashes.
Why Many Believe the Housing Market Will Continue to Rise
But before you write off the housing market altogether as a viable inflation hedge, you should know that many experts are still very optimistic – even in periods of high real estate inflation.
Here’s why many believe that the housing market will continue to rise:
- Low supply
- Millennial demand
- Stricter mortgage policies
There aren’t many homes for sale in some of America’s hottest real estate markets.
This means that the fundamental driving forces will continue to push prices higher.
Everyone needs a place to live, and home ownership is still very much the American Dream.
With fewer options to choose from, buyers are willing to pay high prices in a desperate bid to get into the housing market.
Demand for new homes is also increasing, and recent real estate inflation news shows that over 31% of people purchasing homes are first-time buyers. This represents the largest share of homebuyers in the United States, and many of these individuals are millennials.
This is a great sign for the housing market, as it means there is a steady supply of first-time buyers to add new fuel to the real estate economy.
Stricter mortgage policies
We learned many lessons from 2008, and stricter mortgage policies provide greater price stability for the modern real estate world.
Banks are not allowed to provide risky buyers with mortgages any longer.
The requirements for buying a home are much more involved, and unlike in 2008, the entire market isn’t propped up by homeowners who are just one step away from defaulting.
This means that a massive crash, while not impossible, is far less likely.
The best way to invest in the current market
So with all of these factors in mind, could real estate be an inflation hedge?
Or will inflation go down, causing you to lose money?
Even if prices are slowly declining, a real estate inflation hedge is still a wise decision for the long term. Prices are likely to rebound after a brief correction.
After all, the median house of an American single-family home in 2002 was just over $150,000. Today, the average price of a median single-family home is almost $430,000.
Keep in mind that between 2002 and now, in 2008, there was a major housing crash. This shows that even if the market crashes, real estate continues its upward trend almost inevitably in the long term.
If you’re willing to keep hold of your real estate property for many years, it’s still a very reliable inflation hedge. You’ll only really start to risk losing money if you plan to “flip” homes in the short term.
The obvious solution is to live in the home yourself. As long as you can afford the mortgage, this is better than renting and provides you with actual utility.
Crypto and stocks cannot put a roof over your head or shelter you from the cold. Only a home can do that.
You might also choose to buy an investment property and rent it out. Even if the value of the home decreases and your mortgage rates increase, you can still take home a profit each month by setting your rental fees at the right price.
And due to the lack of supply in the housing market, there is a constant need for rental properties. During periods of inflation, recession, and stagflation, people tend to rent properties instead of buying because they prefer to take a cautious approach.
And even if they can’t afford fancy tech gadgets or electric cars, people always need somewhere to live.
Add Airbnb into the equation, and real estate properties can still represent a solid hedge against inflation.
That being said, waiting for a few months or even a year could be a smart move – especially since so many experts are predicting a price correction in the short term.
While you wait for prices to drop before swooping in and grabbing properties at a discount, you can explore other investment options, such as stocks – especially commodities.
Or why not start your own business?
With service providers like Alliance Virtual Offices, it’s easier than ever to start a business with minimal capital investment.
Use a virtual office instead of renting out a physical office space, and you can run your entire operation from the comfort of your own home without spending thousands of dollars on lease costs and utilities each month.
You can even hire remote employees who also work from home.
Alliance’s Virtual Office service allows you to pick a prestigious office address at a major metropolitan center like New York – giving your business the outer appearance of a major corporation – even if you’re pulling the strings from your home office in a rural area.
These office spaces are real – you can meet with investors, potential new hires, and team members in private and professional conference rooms. You only pay for these spaces when you need them.
Just keep in mind that waiting can be a little risky when it comes to the housing market.
Many investors have looked on from the sidelines – desperately waiting for that “perfect moment” to give into the real estate market.
But if that moment never comes and prices continue to rise, you might end up waiting forever.
No one has a crystal ball that tells the future, and even the most respected experts can’t tell you with 100% certainty what’s going to happen with the real estate market.
As Peter Lynch once famously said:
“Far more money has been lost by investors trying to anticipate corrections, than lost in the corrections themselves.”
That being said, starting a business is never a bad decision – especially if it’s something you feel passionate about. The most successful businesses can rake in far more cash than a typical real estate investment.
Investing real estate inflation: the moral of the story
As you can see, there’s a lot to consider when it comes to the future of the real estate world.
The relationship between inflation and real estate is complex and nuanced.
After reading this article, you might feel a little unsure about what to do next.
As crazy as it sounds, this is probably a good sign. No one knows what the future will bring, and it’s normal to feel uncertain about the real estate world…
Because the future is uncertain!
Here’s the moral of the story:
If you want to buy a home, buy a home.
If you want to start a business, start a business.
If you’d rather wait for a dip in the market, go ahead and do that.
Or invest in commodities!
Listen to the experts – consider their predictions. But at the end of the day, do what feels right for you.
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If your dream is to own a home and if you can realistically afford to do it, then you shouldn’t wait around because of some economists’ predictions.
Life is short, and you can spend your entire life waiting for that “perfect moment” to invest.
And if starting a business is your true passion in life, why not focus on that instead?
Reach out to Alliance Virtual Offices and get started with a Virtual Office today.