It is hard not to make comparisons.  There are similarities and differences between the real estate situation now and what it looked like in the mid 2000s.

I have heard some discussions on the topic of real estate and whether we are in a bubble.  The general consensus seems to be that we are not in a real estate bubble, or at least it is nothing like what we saw in 2006.

I have been of the general opinion that we are likely in a bubble, but it probably isn’t as bad as what we saw in 2006.  I think it is worse for stocks.  It is also worse for cryptocurrencies and NFTs, but these things didn’t really exist 15 years ago.

I still maintain that the real estate bubble, at this point, is probably not as big as 2006, but I can’t discount that possibility.  Also, the way it is going right now, we may have farther to run still.

In other words, we may not have a similar situation right now as to 2006, but maybe we are in 2004 or 2005 levels right now.

The prices of houses in most areas are going crazy right now.  You can’t see them going up 20% or 30% per year without some kind of major correction.

It is possible that inflation will keep it going, at least in nominal terms.  It makes some sense that people are bidding up the price of housing, as they are buying a hard asset.  And if you take out a 30-year mortgage, the payments in real (inflation adjusted) terms will go down over time as the dollar depreciates.

With that said, it is foolish to buy a house in desperation because some people think the prices will just continue to go up.  The more I hear people say this, the more it looks like a bubble.

Young Adults

I sometimes feel sorry for young people in this world.  I see young adults in their 20s just starting out.  Some of them may even make a good income, yet they are still struggling.  Rents are high and housing prices are even higher.

Let’s take someone who is 25 years old making $60,000 per year, which seems like a decent income for that age.  Most people who are 25 years old probably aren’t making that much.  This person does not live with his parents and is single.  He can pay $1,500 per month for a decent apartment in a decent area.  Or he can pay $300,000 for a basic 3-bedroom, 2-bathroom house.

That last part may actually be optimistic.  In some areas, $300,000 will barely buy you a shed on the side of the road.

Just in this example, that is a lot of money.  $60,000 per year isn’t that much when you take out a big chunk for taxes and another big chunk for health insurance.  That $5,000 per month paycheck could easily go down to something in the $3,000 to $3,500 range.

Paying rent on a $1,500 apartment would take up almost half of that, and you still have to eat, pay for transportation, etc.

But the renting option is the more attractive option.  If you buy a house for $300,000, then you might have a payment (with current low interest rates) around $1,400 per month.  That is just principal and interest.  You also have to pay homeowners insurance, property taxes, any association fees, and repairs and maintenance.

The repairs and maintenance is a massive expense.  If you’ve never owned a home, you don’t realize how expensive it is to keep it up.  When you think about all of the appliances and everything else that can go wrong, you really have to budget several thousands of dollars per year for this.

In this hypothetical situation, I don’t think this person earning $60,000 per year can afford a $300,000 house.  The only realistic way is if he had saved up a lot of money for a big down payment.  But most 25 year olds don’t have much in savings at all.

To be sure, he might get approved for a loan in this amount, but he really can’t afford it.  That was the problem in the 2000s.  People were sold homes and given mortgages that they couldn’t really afford.

This hypothetical person might be able to make it work if he gets two roommates to each rent a room.  That can be a good way to build wealth.  The problem is that most people don’t want to do this.

I lived in an apartment shared with two other people after I graduated college.  I did this for about 4 and a half years.  It was a good decision because rent was really cheap and I was able to save some money.

The Current Mania

While things are a bit different this time, I see many similarities with the current real estate mania and the mid 2000s.  It is a seller’s market right now.  In most areas, you can just put your house out there, and you may get yourself a bidding war between buyers.

I see desperate buyers trying to get in on something because they are afraid they will never be able to afford it if they don’t get in now.  This is a classic sign of a bubble.

The lending may be a little less reckless now than what was in the 2000s.  Back then, you basically needed a pulse and the capability to fill out an application.  Lenders would give just about anyone a loan.  It isn’t quite that bad now.

There are differences now that make the bubble seem even worse though.  There is a house on my street that was bought by a corporation.  I think it was Zillow that bought it.

It has sat empty for several months now.  This makes no sense to me.  What are these investors thinking?

This is why, if you are going to invest in real estate, you really have to do it yourself for any good chance to make significant wealth.  You can’t just throw some money at a big company and expect them to deliver good, long-term returns.

This house on my street sits empty.  They have to pay property taxes.  They have to pay homeowners insurance (or at least they should).  They have to pay association fees for facilities that aren’t being used by anyone living there.  They have to pay to keep up the landscaping.  I have seen a couple of people there to make some repairs, but there are no major renovations.  The holding costs are significant.

Meanwhile, it isn’t being rented out and it isn’t up for sale.  They are just throwing money down the drain.  It’s possible the company could turn around and sell the house at some point and still make money, only because the market is so hot. The price may go up by $40,000 over the course of 6 months.  Even though this is absurd and unsustainable, some investors will get lucky.  Others will not.

If this house is sold later this year, any gains won’t be that great even with the boom because of the holding costs and the transaction costs.  If one person or a small group of investors had bought this house, then it would be rented out by now, or else it would have been flipped and sold already.

The fact that these companies are doing this (being reckless, really) and depending on continued gains through price appreciation, tells me that this is a major bubble.

It is unsustainable because these companies will start losing money.  You can’t just buy a whole bunch of houses and hold them sitting empty and expect to make money over the long term.

The boom is also unsustainable because middle class America can’t afford these ridiculously high prices.

I am convinced that we are in another real estate bubble.  I think the stock bubble is worse, but real estate can be more impactful because of the leverage.

I don’t know how high up it will go and for how long, but at some point there will be a reversion to the mean.  There will be a correction.  Those who are over leveraged will get hurt badly.