The roaring 2010’s doesn’t sound as cool as the roaring 20’s from the past, but our stock and real estate markets are definitely roaring… What’s incredible is the S&P has gained over 300% from its 2009 lows.
It is my opinion that we aren’t going to repeat history in the same way as the Great Depression of the 1930’s or the Great Recession of 2007-2010. According to market experts, those depression cycles happen every 70 years or so.
However, we may be experiencing the start of a mid-cycle. They occur in seven- to ten-year cycles and usually last only one to two years. The graph below tracks new home sales and recessions (indicated in light blue) since the 1960’s.
There are several factors that bring on a mid-level correction, however, interest rates are the biggest factor of all. When the Federal Reserve raises interest rates, they are trying to curb inflation. When they lower interest rates, they are trying to create inflation. The problem is that there is no way to get it right. The cycle is going to happen either way… However, manipulating interest rates can usher in a recession quicker or it can cause a delay. As you can see from the below graph, the late 1970’s was a turbulent time for real estate. As inflation grew, the Fed raised rates to compensate. This brought on a mid-cycle slowdown in the early 1980’s. (See the graph above)
What happens to housing when interest rates rise?
Homeowners experience the crunch in several ways. If they have been using their home equity lines and now they can’t pay it back or refinance, then they suddenly are unable to afford their home. Many of the first-time buyers that purchased toward the end of the sellers’ market are unable to sell since they have no equity and the rates have increased, reducing their purchase power.
If a borrower currently has a 6% mortgage at $100,000 they can afford to move up to a $200,000 home at a lower rate of 4%, and they can use the equity from the first home for a down payment. The problems start when you have a 4% mortgage and you want to buy a new home and interest rates are at 6%. Now you’re stuck, and you can’t take that high paying job offer in a different city without taking a big financial haircut. Or your wife might be pregnant with your second child and you only have a two-bedroom 750sqft condo.
It only takes a short period of time after interest rates rise to see this start to happen. Once the pattern starts it begins to feed off itself fueled by the media. That old primordial emotion takes hold of the herd…FEAR. This signals a sell off and recession. The Fed then lowers the rates to compensate and eventually fear turns to greed, and we are back on an upward cycle.
If we think this going to happen… What do we do about it?
The above illustration shows the typical 18-year real estate cycle. The part I found most interesting is that there isn’t a massive crash every seven to ten years, but there is a mid-cycle slowdown. I believe 2019-2021 will be such a correction. It will most likely be similar to what occurred in 1961, 1981, and 2001 where the correction was only one to two years followed by another three to seven years where the market increased in value.
I believe it’s going to come on quick and be over just as fast because everyone is ready for it. I have yet to speak to someone that believes the market is going to keep going up. But in the same breath they are still in the market. Why? They believe they can see it coming and will be able to sell fast and then wait and get back in at a lower value.
However, this is usually not how human nature works. I learned this when I went to the casino one night with $100. I started playing blackjack and won $300 in about an hour. I could have gotten up from the table and left, but then I started losing a few hands. Now I’m only up two times my investment so I continued to play to get back to my new even mark of $300.
By the end of night, it was all gone. Why? I figured as soon as I won I would get up from the table, but I didn’t. This is the same way some investors play the stock and real estate market. If I just stay in a little longer I can make more money… When it starts going in reverse you stay in hoping for a bounce, so you can sell at your previous high value or at least neutral.
The Fed is going to continue to raise interest rates to curb inflation, and it will cause the housing market to correct rapidly. It may be more rapid in its decent this time because big bankers and hedge funds don’t want to be left holding the bag this time. They will sell fast and cheap and keep the money flowing, which is known in the industry as “Velocity of Capital.” Every investor that witnessed how much money was made during the last correction is not going to wait until the Wall Street cheerleaders say it’s OK. They are going to jump in fast. Therefore, in my opinion, the market will rebound faster.
I am gathering like-minded investors now, because if I wait until it is already happening it will be too late. Now is the time to discuss strategy, not after the war has begun. If you don’t want to be on the sidelines this time around, email me for my mid-cycle correction plan. I outline what I plan to do exactly with the opportunities coming our way in real estate.