Monday, February 6, 2012

2012 Real Estate Outlook: Demand - Willingness

2012 Real Estate Outlook: Introduction
2012 Real Estate Outlook: The Rise (1980 - 2006)
2012 Real Estate Outlook: The Fall (2006 - 2011)
2012 Real Estate Outlook: Where We Are Today
2012 Real Estate Outlook: Where We Are Going
2012 Real Estate Outlook: Demand - Willingness
2012 Real Estate Outlook: Demand - Ability
2012 Real Estate Outlook: Supply - Local Market
2012 Real Estate Outlook: Supply - Shadow Inventory
2012 Real Estate Outlook: Conclusion
2012 Real Estate Outlook: Commercial Real Estate

For a review on why psychology is crucial in an investment analysis, see 2012 Real Estate Outlook: The Fall (2006 - 2011).  We now move into how psychology can be directly applied to the current real estate market.

The sentiment toward housing has fallen drastically since the euphoria peaked in 2006. Home ownership, once a bedrock of every investor's retirement, has become both a major investment loss and a tomb for Americans trapped in an underwater mortgage. The impact of this on sentiment will be magnified by two important demographic groups:

1. Generation Y (Echo Boomers) Born 1980 to 1990
2. The Baby Boomers

Generation Y:


Speaking with many of my friends (early 30’s), those that have not purchased a home now say that they have no intention of purchasing a home. They enjoy the benefits renting offers (maintenance free, flexibility) while they watch homes become cheaper every month.  This simple psychological shift will create an enormous change in the home ownership landscape over the next decade.

Generation Y has only known a time of uncertainty in the American economy. Since graduating college with a tremendous amount of student loan debt, they have entered a jobs market marred with unemployment levels and job insecurity last seen during the Great Depression. Job uncertainty and unemployment not only impact their psychological decision to make a major investment decision, it also impairs their ability to secure the required down payment. The economy has also delayed both marriage and children for a large part of Generation Y, one of the main reasons for home ownership.

Baby Boomers:


There is another major change occuring in America's most dominant demographic group: the retirement of the baby boomers. Many baby boomers currently live in large homes that once housed their large families. The children have now left the home, leaving them with 4 and 5 extra bedrooms to heat, cool, and clean every month.

A large portion of this important sector of the population has embraced the idea of renting after watching an enormous portion of their retirement disappear along with their home equity. While they are making this psychological shift far slower than their children, (many of whom purchased at the peak and are now underwater) even a small percentage of boomers that choose to rent will have a massive impact on the market.


10,000 baby boomers per day will turn 65 over the next 19 years. These retirement-focused Americans will be looking to downsize and reduce monthly maintenance. Many will choose to do that through renting. A large percentage of these baby boomers purchased their homes before the bubble began meaning they have a significant amount of equity and/or their home is paid off. This allows them the flexibility that the underwater homes do not have to put their homes on the market (increase supply).


Herding Behavior:

As prices continue to fall downward, the sentiment toward homeownership and the home ownership rate will continue to decline. This is how markets form bottoms. Just as with our island residents discussed in the previous sections, when the sentiment toward purchasing apples and the subsequent price of apples falls low enough, it will spark demand from the first brave souls to enter back into the market. This is how a market cycle works. Bubbles tend to run higher and correct further than a fundamental analysis can predict due to the natural herding behavior of human psychology. We experienced the greatest level of euphoria in real estate history and before the market finds its bottom we will have experienced the lowest level in history.

Next: 2012 Real Estate Outlook: Demand Part 2 - Ability

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