The Risk of Overvalued Housing Markets
- Author: Chris Remington
- Posted: 2023-10-28
The housing market has long been a very sporadic thing to track. It's up and down like the ebb and flow of the ocean's tides. Though it's also one of the things that props up the economies of many nations, as we witnessed so much suffering after the housing collapse of 2008. Though even in its healthiest years, it's really hard to pin down just how the housing market is going to react to even the smallest possible changes out there. So, when the global pandemic first struck in 2020, many eyes were on the housing market to see how things would go. Generally speaking, the market held up pretty well. It had its moments of fluctuation, but overall it remained relatively stable. Though a lot of experts in the field are claiming that today's number of overvalued housing markets might just do a lot more damage and could potentially cause a crash.
An overvalued housing market is an area where housing are selling for a lot more than their appraised value. We can find these markets in LA, San Francisco and other California areas, as well as areas of Chicago, Las Vegas and New York, among others. Basically, what happens is that a house would appraise for, say, $500,000, but the demand for the home is so high that it ends up selling for well above that. In Seattle, Washington, for instance, homes are selling for more than $200,000 above asking price on average, which means that people are paying well more than houses are worth.
The biggest issue with this is that these houses don't magically become worth more money just because someone is willing to pay more money for them. In other words, if someone spends $700k on a house that's only worth $500k, they're losing money here. They're not going to get that money back. Even if the market gets hot and they put the home up for sale, the appraisal is going to go down, not up, and it doesn't matter that someone paid a whole lot more for the home. This is especially going to hit people hard in terms of equity. Just because they paid much more for the home than what it was worth doesn't mean they'll draw that in equity. Their equity will be, at best, based on the original appraisal of the home.
We have seen overvalued housing markets in America before, and it typically never ends well for the homeowner. The vast majority of people who are overpaying for these homes are doing so by taking out mortgages for a whole lot more than they should have. This means much higher monthly payments and much more of a likelihood of a huge spike in interest rates years down the road. So, if something befalls these homeowners financially and they have to move, they typically have no choice but to greatly downsize, as they're not getting back nearly as much as they paid in, and also not what they need to even pay off the remainder of their mortgage. Paying over the value up front is something that can have seriously negative ramifications down the road for the individual homeowner.
It also impacts the entire market relatively, as it's pricing prospective homeowners right out of the market.
How to Combat the Problem
An overvalued housing market is going to end up pricing most people out of homes. Pretty soon, only extremely wealthy people will be buying new homes, and even older, run-down properties are going to be too expensive to even fool with. This will cause a lot of people to stay living in apartments or their starter homes, and it will ensure that no new people can enter the market to become homeowners. It's really a huge problem that needs to be solved before it spreads. Though how does a problem like this stop being such an issue?
The only real way to ensure that overvalued housing markets fluctuate back to normal is by having a lot of new homes come on the market. The issue is that there's a housing shortage, which is the primary reason some people are in bidding wars and paying so much more for homes. If we had a bunch of new houses come into the market, the prices would quickly settle back down for what the homes are actually worth, which would allow everyone to compete on equal footing. Until that happens, expect a lot more of these overvalued markets to pop up in many of America's cities.
