Why The Housing Market Will Boom In 2022

TNI 59 | Housing Market

2022 is shaping to be a pivotal year for real estate investors coming out of the pandemic. Is this year the year the housing market will boom? Today, Dan Deppen looks into the signs. With US housing prices steadily rising for the last 10 years, could this rate of growth continue? Dan reviews an article from FinancialSamurai.com, and goes through 8 reasons why it can and probably will. We’ll talk about the impacts of inflation, interest rates, supply chain issues, and several other factors that will influence the housing market and your mortgage note portfolio.

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Why The Housing Market Will Boom In 2022

In this episode, I’m going to be talking about some predictions for the housing market in 2022. Happy New Year to everybody. I hope you are off to a good start in 2022. I know my holiday season was good. I spent a lot of time with my family. I had a bunch of people come to visit. Everything worked out well. It was nice. However, since then, I’ve gotten sick. One of my daughters has COVID. That has been a giant pain.

As you may be aware, at the end of 2021, we had a bunch of fires in Colorado. A lot of people have reached out to see if I was okay, which I greatly appreciate because I live in that vicinity. Fortunately, my house is about 7.5 miles from where the fires were. I was okay, which I’m thankful for. I have at least a couple of friends who lost homes in that. It has been a strange couple of weeks since Christmas.

Note business has been good so far. My focus here in January 2022 is to work on finding some new notes to buy. I want to expand my portfolio as we get into 2022. I knocked out being sick, and a few other things have come up. I’m a little slow on the uptake to get that. I did have one note deal that closed out. I might do a case study on this at some point in the future.

There was a note in Cincinnati that had performed for a pretty long time and then it stopped. Borrowers and cooperatives started the foreclosure process. The borrower got an attorney and fought me on it. It was the first borrower I have had put up a legit fight over one. We ended up reaching an agreement where he would do a short payoff. I wasn’t happy about it because they ended up taking about a $7,000 loss on the deal when it was done.

If I had stayed the course in the legal process, I most likely would have been made whole. I ended up taking the deal and getting out of that one because when you get into a non-standard legal process, the legal bills and the timeline are very open-ended. They can rack up quickly. I was concerned that this guy was such a lunatic that if I ran this to the ground finally and got the property back, God only knows what condition it could be. I might drag it out and take a bigger loss.

TNI 59 | Housing Market — Housing Market: If we look at housing prices since the financial crisis, the median sales price of homes sold in the US back in 2011 and 2012 was around $220,000. That climbed to about $320,000 prior to COVID.

I decided to cut my losses there and move on. That was a deal that happened in 2021, but it got finalized in January 2022. I have had two other borrowers in January 2022 who asked for payoff amounts. They want to pay off the loan, which that would be awesome. We will see whether or not those two follow through. If they do follow through, they would be about roughly $13,000 and $14,000 wins, respectively. That would be an awesome start for the year. Those are some interesting stuff. I wanted to give you an update.

The main thing I want to talk about is the housing market in 2022. There’s a website called FinancialSamurai.com. That’s general personal finance. It has all kinds of economic and financial information. I recommend Financial Samurai. It’s a great site. The guy who owns that was a former investment banker. He did some other stuff. What I like about his articles is they are pretty long and he goes into depth on why he believes what he believes.

He wrote an article titled 2022 Housing Market Forecast: Another Boom Year. If you go to Financial Samurai, you can find this article there. What I’m going to do is go through some of Financial Samurai’s takeaways and talk about what that might mean for the housing market in 2022. I will wrap up with how that might impact you as a note investor.

If we look at the housing prices since the financial crisis, the median sales price of homes sold in the US back in 2011 and 2012 was around $220,000. That climbed to about $320,000 prior to COVID. Since COVID hit in 2020, it has gone from about $320,000 to a little over $400,000. A part of me looks at this and goes, “This is almost doubling in the median sales price of homes in about ten years, which seems pretty nuts and unprecedented.”

That would lead me to believe that we’ve got to be finding a top somewhere. You look at that and think there’s a lot of room to roam upwards after that, but for a variety of reasons, there is room to go quite a bit higher. The reason number one is low and negative real mortgage rates. One of the things that Financial Samurai talks about is how mortgage rates are tied to the ten-year bond yields and not so much the Fed discount rates.

The stock market is very swingy. A lot of people are looking to real estate as a way to get higher yields with less volatility. Click To Tweet

If you look at some of the predictions or things that are happening in the bond markets, those long-term ten-year bond rates are staying low, which implies that we might see a little bit of an increase in mortgage rates. I expect those to stay near these historical lows that we have been enjoying for many years. I also mentioned that mortgage rates are not just low, but the real mortgage rates could be even negative based on inflation. We had a lot of inflation in 2021. If that continues, that makes it more desirable to borrow money.

If you are in a high-inflation environment and you borrow money and then there’s inflation, you essentially have to pay less, but your debt is getting inflated away. It’s much like a government might rack up debts and then print money to subvert the debt. You can do a similar thing with mortgages if inflation stays high. However, the interesting thing is Financial Samurai expects that the inflation rate is probably going to settle down. I did some digging on my own too.

If you go to the St. Louis Fed website, they have a graph of a ten-year breakeven inflation rate. They have ten-year treasuries that they sell, but there are also ten-year inflation-adjusted treasuries. They do a comparison between the straight ten-year treasuries and the inflation-adjusted ones to see where they are trading at. What you can interpret from that is the market’s belief in what inflation rates are going to do in the future.

The market could be wrong, but this is the whole market. Trillions of these bonds are being traded. Their predictions are going to be pretty good for the most part. If we look at their historical trends, we have had an inflation rate of around 2%. It has gone up now, but they have it projecting out at about a 2.5% increase. There’s probably an increase in inflation overall, but I don’t know that we are going to get into these high rates of inflation of 6% plus like we had in 2021. That probably has been somewhat of an anomaly.

The second reason for a housing market is a permanently higher demand curve. What this means is we have a lot of Millennials who are hitting the point of life where they are buying houses. In fact, Millennials make up the largest percentage of home buyers by generation and that’s going to continue. This increased demand for homes from these younger generations is going to shift the demand curve up. When the demand curve shifts up, that will bring pricing up with it as well.

The third reason is an increased demand from institutional investors. There have been a lot of stories in the news about various private equity firms and other large institutions buying up real estate and rental properties in a search for yield. The bond markets aren’t providing these folks a lot of yields. The stock market is very swingy. A lot of people are looking to real estate as a way to get higher yields with less volatility. Even though some big institutions like Zillow have screwed things up with their iBuying, there are a lot of big institutions out there buying up homes and increasing the demand. That should continue.

The fourth reason they gave was increased demand from foreign investors, which is one that I haven’t thought about too much. You see this more in specific markets. It’s often on the coast. Since COVID has hit, foreign investment in US real estate has decreased quite a bit. At some point, when we finally get on the backside of this pandemic and travel restrictions loosen, they respect more foreign investment to flow back into the United States. Why would they do that?

That leads us to reason number five, which is the value of the property in the US compared to the rest of the world. Even though we have had this big run-up and almost a doubling of real estate prices, comparatively speaking, the property of the real estate in the US is a lot lower than a lot of other places in the world. If we compare the United States to Canada, I have got a chart here that shows trends of disposable income relative to home prices in the US.

When you look at Canada, there’s a massive difference. The home prices are about 75% higher than in the US relative to disposable income. That’s signaling to me that there’s still room to grow in values. One of the things that I thought about as this boom has gone on is you are going to hit a natural limit to what people can afford to pay per month for housing at some point. We’ve got to find that somewhere and maybe that’s going to define the top of the market. What this is telling me is that we may be nowhere near that threshold and there could be a lot more room to run.

Number six is strong wage and job growth. We have essentially got full employment. I was reading something in the Wall Street Journal. The unemployment rate has been lower than it has been at any time all the way back through the ’90s. Even in that smoking hot economy in the ’90s, we have never quite seen employment this low. A lot of that is because of people who decided to quit jobs since COVID. Honestly, I’m still trying to figure that one out. I’m still a little puzzled.

Millennials make up the largest percentage of home buyers by generation, and that's going to continue. Click To Tweet

It seems like several million people can suddenly afford not to work, and that’s okay. It makes me think maybe I’m doing something wrong. I haven’t quite cracked the code on that one yet, but the fact remains across the board. Whether it’s retail-type jobs, they are having a struggle hiring. In my day job as a product manager, we need to hire engineers. That’s a big problem.

I’m getting pings from people all the time with job offers. It’s a crazy and nutty market. We see wages increase as a result. There were a lot of articles around Christmas time in the Wall Street Journal talking about how the average raise in 2022 is much higher than they have been in a long time. That wage growth in the US is higher than it is in other parts of the world, like the Euro Area or Australia. That provides more of that disposable income for people to spend on housing.

The reason number seven is rising building costs. With that, everything seems like it went up in price in 2021. In particular, lumber prices are through the roof. Even copper prices are way up. In 2021, I had a property get stripped of copper wire. Apparently, that’s becoming a thing again. I thought we were done with that since the financial crisis.

What these rising building costs mean is that their replacement cost of housing is much higher. There is a limit that there’s an undersupply of homes available. These high building costs mean that it’s not that easy to go out and build a lot more housing, even though they are building at a higher rate than they have since the ’70s probably. That keeps a floor under housing prices.

I was also reading an article. I mentioned the fires we had in Colorado. About 1,000 homes got destroyed. They were saying how a lot of people had insurance policies set to the market value of the property. Now that these building costs have gone up so much, a lot of people’s insurance policies aren’t necessarily going to cover all the costs needed to rebuild. This is a big problem. It puts more upward pressure on housing prices.

Number eight is the declining supply and inventory. There’s not a lot of inventory on the market. I have got a friend here in the Denver area who is a Keller Williams realtor. He was telling me a while back that for the whole metro area, about 35,000 properties on the market have what they consider a balanced market. At that time, there were only 3,500 or so. In the Denver Metro Area, we are looking at about 10% of the inventory needed for a stable market. It’s gotten even tighter since then. You have the fires that take 1,000 properties away and it gets even worse. The supply and demand equation is way at a whack.

Back in the early 2000s, there were about 4 or 5 months of supply spike during the housing crisis. When there was a flood of houses on the market, it went up to around ten months of supply. Since about 2013, when it got back down to about five months, it slowly trickled down. We are only at about 2 to 3 months of supply, which is practically nothing. You know how supply and demand works. If you want prices to go down, you get any more supply at some point.

That’s a whole bunch of reasons why housing prices are going to continue to increase. The big question since this is The Note Investor show is, “What does this mean for note investors?” Number one, it means that if housing prices are going up, the value of the collateral on your notes is going to continue to increase. For an existing portfolio, this is great because it means those borrowers are going to probably gain even more equity. I know almost all the loans I have. Borrowers have a lot of equity. That’s all the more incentive for them to perform.

Borrowers aren’t always rational. In the case where someone doesn’t perform and they are not willing to work something out and you have to go through foreclosure, it de-risks taking on those REOs. I have talked about it many times. If you do foreclosures, it’s a giant crapshoot when you get the property back. Some of them are absolute home runs. Some of them are like, “What is going on here?” When you have overall housing values, it makes that a lot risky.

From the conversation with Franco Barile towards the end of 2021, we still have this wave of foreclosures coming. That isn’t going to change. That should increase the supply of notes. We should have more of it. I still believe there are going to be more notes coming available here at some point in 2022. The big question for me is, “If the value of the collateral is going up, that tends to push prices up. If we have a foreclosure wave that increases supply, that tends to push pricing down. Where is pricing on notes going to end up?” That’s a big question mark.

For me, performing notes are probably going to sell it more of a premium, but we will have to wait and see. When these nonperforming notes hit the market, they are going to be foreclosures. The pricing is going to be higher than it was years ago because the value of the properties is higher. You might see more foreclosures where there’s equity, which gets a little weird on pricing. There may be more emphasis on figuring out what the value of the property is, which can be difficult when you can’t see inside the property.

I would caution people not to get anchored on the pricing of the past when it comes to these things. That has caused a number of note investor problems, where they participated in the market at a point in time where things were priced absurdly low. They anchored on that as the pricing they have to pay. That has caused them to pass up some good deals. You still need to do your due diligence and understand your pricing model.

Understand that the total percentage of BPO or UPB that you are paying might be quite a bit higher than years past and that could still be a very good deal. That is going to wrap up where I think the housing market is going in 2022. I’m curious to know your thoughts. You can drop me an email at Dan@FusionNotes.com or leave a comment on the YouTube channel. I always appreciate that there are a lot of sharp people who read this that have a lot of in-depth knowledge. I’m interested in what points you might have or other considerations that I didn’t bring up here.

If you want to learn more about investing in notes, get in the game and go from learning about notes to becoming an active note investor in 30 days, you can check out my online training course Note Launchpad at NoteLaunchpad.com. It’s completely an online course. There are tons of videos, downloads, calculators, templates, checklists and the whole nine yards. My Note Ninjas is a private Facebook group, so I can answer questions. Until next time, I hope your New Year is off to a great start. Let me know how I can help you and your journey as a note investor. I will see you next time. Thanks.