Hotter areas of the US real estate market, particularly on the high end, are experiencing a slowdown. With the Fed raising interest rates, affordability becoming an increasing problem, and recent tax changes, the big question is whether the recent weakness is temporary or the beginning of something more serious.
We recently spoke with real estate expert Kathy Fettke on our podcast to get her take on the outlook, who says that a lot depends on the extent of further Fed tightening and that, overall, a slowdown would be good for the housing market.
Fed Policy Paramount
The reality is, what happens to housing is tied to how the Fed choses to move forward with interest rates and liquidity here, Fettke noted.
Both real estate and stocks have been booming for around a decade, she noted, when the Fed jumpstarted the housing market through quantitative easing, after it flatlined in 2008. That money creation also drove the stock market up and, additionally, the Fed was buying bonds, further driving down interest rates.
The Fed created $4.5 trillion or more out of thin air to jumpstart markets and that had a profound impact. Now, the Fed is trying to remove some of that liquidity, but in a gradual way, without popping any bubbles, she said.
“Now, in the past, they haven't necessarily been successful at it,” Fettke said. “Usually when the Fed raises rates, in most cases — I think there have only been a few exceptions — there was a recession afterwards. The bottom line is that we need to see a slowdown in housing. So it's good for the market. It's good for buyers if it's more affordable.”
Real Estate Trends
The 2005 housing bubble and its subsequent aftermath aren’t something Fettke expects to play out again, given that lending standards aren’t nearly as loose as they were then.
Though the Federal Reserve is trying to put the brakes on, and this could turn into an economic recession, Fettke stated, she doesn't think we'll see a dramatic crash in housing.
Another difference today is that most people who own a home have a fair amount of equity, Fettke noted, with a very low payment. This implies most won’t stop making payments and walk away, likely precluding a foreclosure crisis.
We could see more inventory come on the market, Fettke noted, which will help new buyers.
“If you have a property listed that is somewhat affordable — I mean nothing's affordable in California, but if it is within the median price range where the average person could possibly afford it — that property is going to be gone,” Fettke said. “It's sold like hotcakes, unless there's a real problem with it. Even so, you've got a lot of flippers jumping in the market who might like problem properties. So, if you're anywhere in the affordable range, you will sell your property.”
Where are Prices Softening?
It’s on the higher end of the market, especially in expensive locations such as Southern California, where we’re seeing softening. There are several reasons for that, Fettke noted.
One big reason is that Chinese buyers, who have traditionally loved Californian real estate, faced a new crackdown from the Chinese government last year on capital fleeing the country. Also, given the Trump Administration’s actions toward China, Fettke added, China's policy is unlikely to change anytime soon.
Building affordable housing, especially in California, is also an problem because of regulations and permitting issues.
“Builders can only build higher-end offerings if they want to make a profit,” Fettke said. “So there are more higher-end properties on the market, and whenever there are more properties, you start to see a softening, but not in anything affordable. If there's anything affordable, let me tell you, it's going to sell immediately.”
Tax Consequences and Investment Opportunities
The recent tax changes disadvantaging home ownership aren’t necessarily impacting the real estate market, at least yet, Fettke noted, and she doesn’t expect it to be the determining factor for new buyers.
The Fed is likely to succeed in slowing down the market, she said, so buying in at the high end with the intention of leaving the property in the near future may not be a good bet, given that a buyer would need prices to increase to break even.
However, renting and investing may a better option right now, perhaps in a more affordable market.
There are substantial tax advantages to this approach, Fettke noted. If investors tend to rent out a property, they have tremendous tax incentives still available to them.
“You can treat your real estate like a business and build wealth much more quickly through an investment property because you get to write everything off,” Fettke noted. “A lot of the laws have changed with the new tax bill that make it less advantageous tax-wise to own a property, but very tax advantageous to own rental property. I mean, it's unbelievable. You can get to a point where you pay no tax through investment property.”
Listen to this full interview with Kathy Fettke by clicking here. For more information about Financial Sense® Wealth Management and our current investment strategies, click here. For a free trial to our FS Insider podcast, click here.