It’s hard to believe that it’s been over a year since I sat down to give my outlook on what 2020 would bring for the real estate market in the upcoming year. As I was preparing to share my rosy predictions for the new year, the nation got shut down due to the Covid pandemic. Suddenly, everything that I thought was going to happen in 2020 became very uncertain and I had to rethink my entire outlook.

At the time, the consensus was that the real estate market would tank, and prices would tumble. As the initial shock passed and I thought more about it however, I came to the conclusion that that would not happen. I predicted that prices would remain stable in spite of shelter in place orders and business shutdowns. My prediction was that the number of transactions would drop but prices would not. I felt that both buyers and sellers would drop out of the market keeping supply and demand at relative equilibrium. As long as sellers weren’t selling there wouldn’t be an imbalance of inventory.

It turned out that I was half right which wasn’t too bad given the crazy and unpredictable times. The number of new listings did drop sharply as sellers have been holding out, not wanting to show their home during the pandemic. What I didn’t anticipate however, is that demand has remained very high mostly due to all time historically low interest rates. In addition to low interest rates, COVID has actually created demand. In some markets, renters are fleeing high density, urban core sections of cities and buying in the suburbs with more social distancing. Also, changes in the workplace are allowing many people who could not otherwise afford to buy a home of their own to work from home and buy in more affordable markets..

Housing Inventory Was Heavily Constrained in 2020

In many markets across the country, inventory is well below the 6-month supply that is considered neither a buyer nor sellers’ market. Nationwide, inventory levels are at 1.7 months’ supply. In some markets like Kansas City and Indianapolis, inventory has dropped to less than 1 month of supply. Available inventory in those markets was down 40-45% from 2019.

As a result, prices skyrocketed in 2020 in many markets, including those not historically known for high appreciation. Nationally, median home prices rose 8.4% in 2020.

So, What Will Happen in 2021? Will There Be Another Bubble?

This depends on how you define a bubble. Personally, I don’t see a big drop in prices in 2021 and neither do most of the real estate experts. I believe that in late 2021, prices will moderate and there could be a correction, but I don’t believe there will be a crash. Prices can’t keep going up and up indefinitely. Real estate always seeks an equilibrium. At some point, demand will drop, and inventory levels will rise as the market begins to run out of stream. This will be more gradual and will not happen until late 3^rd quarter at the earliest. There is still a huge shortage of inventory on the market and that won’t change until demand significantly declines or supply significantly increases. Neither of which will happen overnight. In fact, a couple of factors could create a short-term surge in increased demand. As interest rates begin to rise, buyers will be driven into the market to take advantage of the current low rates before they go up. Additionally, as the COVID situation improves with continued reduction in the transmission rate and increased confidence with the vaccine, buyers who have been on the sideline may flood the market due to pent up demand. People have been able to save a lot of money while cooped up at home unable to spend money on dining out, entertainment and vacations. When things ease up, they are going to want to do something.

The biggest reason I don’t see a crash in 2021 however is that high prices alone don’t cause real estate market crashes. The 2008 housing crisis wasn’t caused by high prices. It was a perfect storm of 3 factors:

1. Extremely lenient lending standards
2. High growth of the money supply in the economy
3. High rate of new housing starts

With the exception of a recent increase in the growth rate of the money supply, none of these factors exist today.

Won’t a Wave of Foreclosures Cause a Housing Crash?

Those that predict a housing crash point to the possibility of a massive wave of foreclosures once the COVID foreclosure moratorium expires in June. There is plenty of reason to believe that there will not be massive foreclosures, however. The rate of new mortgage delinquencies has decreased significantly since the start of the pandemic.

Just prior to the pandemic, the mortgage delinquency rate was 3.5%. This spiked to a high of 7.3% in May of 2020 and dropped to 5.9% in January 2021. This was the first month that it fell below 6% since March 2020.

What is more encouraging is that the rate of new delinquencies has fallen drastically.

The rate of mortgages 30-90 day delinquent has experienced the biggest decline. In November 2020, that rate was 1.4% compared to 4.2% in April 2020 and was below the pre pandemic rate of 1.8%. This clearly indicates a declining rate of new delinquencies.

The rate of 60-90 day delinquencies remain unchanged.

Although 90+ day delinquencies are 3 times higher than a year ago at 3.9%, they are the lowest since May 2020.

Core Logic made the following statement about foreclosures: “The decrease in the serious delinquency rate and increases in home equity as prices continued to increase in 2020 lessen the likelihood of a foreclosure wave later in 2021 when homeowners emerge from forbearance.”

Mortgage Forbearance vs. Loan Modification

It’s not just the fact the mortgage delinquency rate is dropping that leads me believe there won’t be a massive level of foreclosures like in 2008. 5.3% of mortgages are in forbearance which is a significant number, however, there is a real misconception of what forbearance is. Forbearance is a temporary pause in mortgage payments during the forbearance period, unlike a mortgage modification which is simply a restructuring of the mortgage terms. A mortgage modification requires the homeowner to still make regular payments under the modified terms. It was used extensively in the 2008 housing crisis and did not work for various reasons. The biggest difference however is that forbearance does not require the mortgage holder to make a balloon payment at the end of the forbearance period to make up the deficiency. The missed payments are simply added on at the end of the mortgage and extends the payback period. Under the CARES Act forbearance plan, homeowners cannot be required to pay a lump sum to cure the deficiency.

Forbearance significantly reduces the chance for massive foreclosures when the foreclosure moratorium expires as schedule to in June if the shutdowns continue to be lifted and people begin returning to work.

Bottom line, my prediction is that there will not be a collapse in the real estate market with a significant decline in values. My prediction is that somewhere in the late 3^rd or 4^th quarter, there will be a normal transition from a sellers market to a buyers market with some moderation in prices.

What do you think? Are you expecting a major drop in prices in 2021 and how is that affecting your investment plans for this year?