In the midst of the stock market volatility, property investors want to know how this could affect the real estate market.
Last Wednesday, October 10th, 2018, Wall Street was hit with a sudden drop. The Dow Jones Industrial Average, or simply the Dow, dropped more than 831 points (about 3.2%), the S&P 500 index fell 94.66 points (3.3%), and the Nasdaq Composite Index dropped by 315.97 points (4.1%). According to Fortune.com, this is the biggest decline in the stock market of 2018. As you would expect, this caused widespread panic among investors – not only in the stock market. In many cases, the rise and fall of major stock indexes can have an indirect effect on other industries.
Right now, there’s a particular concern about how this drop will trigger the performance of the real estate market. Although there’s no direct link between them, it’s possible that a significant change in one market can influence the behavior of the other. Real estate investors now worry if they should sell their investment properties, and buyers fear that they’ve lost their chances of finding and buying investment properties. Is this really the case? Could this stock market volatility potentially lead to a housing bubble any time soon? Here’s what property investors need to know.
Higher Interest Rates on Mortgage Loans
When property investors consider buying rental properties, not all of them have enough capital to buy with all cash. Instead, they’ll need external help and so they turn to lenders to complete the purchase and get started with real estate investing. As we all know, with loans come interest rates. Mortgage interest rates could go up or down depending on the economy’s health and buyers’ confidence – which are largely influenced by the stock market.
Related: Investing in Real Estate: What Rental Property Mortgage Rates Can You Expect in 2018?
In times of low volatility, lenders often lower interest rates because home buyers have more confidence in their ability to repay the borrowed money. However, in times of high volatility, property buyers in the housing market are uncertain and less confident. As a result, many lenders are concerned about how reliable those seeking a loan are. Thus, they increase their interest rates to accommodate the risk they’re taking by lending money in times of financial struggle.
If you’ve been keeping up with real estate market trends throughout the year, you’ll know that mortgage interest rates have been rising gradually. If these rates continue to climb up due to the drop in the stock market, fewer property investors will be able to afford to buy rental properties, reducing the demand for real estate. Moreover, this has an indirect effect on real estate appreciation – property values drop when the demand decreases.
Some economists, however, believe that slow appreciation isn’t necessarily a bad thing. Property prices will drop in housing markets like Phoenix and Atlanta where prices were too high last year. This, in turn, will encourage home buyers (those with enough capital) to buy properties with all cash, turn them into rental properties, and make profits in the real estate market.
Larger Down Payments
Another obstacle that property buyers in the real estate market face due to high volatility is regarding down payments. Typically, lenders request borrowers to put down 20% of the property’s purchase price while they’ll cover the remaining costs. A drop in the economy, however, oftentimes results in property buyers needing to put a larger down payment if they want to get approved for a mortgage loan.
However, due to the increase of interest rates, the idea of taking out a mortgage loan becomes less appealing to real estate investors. As a result, many turn to getting equity from their own assets to come up with the cash. Unfortunately, the stock market comes into play during this situation as well. As we said, when the economy is bad, the value of properties drops, making it difficult to come up with enough equity to finance buying investment properties.
Related: What Are Your Options for Financing Rental Properties?
Less Home Buying Activity (Consumer Confidence)
There’s a direct relationship here between the health of stock indexes and real estate investors’ home buying activity. Generally, real estate investors only buy investment properties when major indexes rise, as their consumer confidence increases and they feel secure about their financial future. Similarly, when indexes fall and the economy isn’t stable, investors in the real estate market become less confident. In this case, buying becomes a risky investment that could turn into a liability rather than a money-making asset.
Moreover, this also has an effect on property sellers – due to lower demand, sellers have to lower their prices. Even though this makes it a good time to buy a house, people still worry about investing in times of high volatility. Furthermore, the above combination of higher mortgage interest rates, larger down payments, and less potential to rely on equity can make buying a rental property very difficult. All these factors play a role in home buyers’ decision-making which, in turn, affects how the real estate market performs.
Related: US Housing Market Predictions: What’s to Come in 2019
Could This Lead to a Housing Bubble?
The #1 thing property investors are now worried about is the possibility of a housing bubble in the near future. According to the senior economist for Realtor.com, Joseph Kirchner, “This is not a bubble.” A housing bubble happens when builders are building homes irrationally while demand is falling. Another scenario is when prices are going up but buyers still buy real estate, thinking they’ll quickly build equity. This is not the case today.
Even though interest rates are increasing, there could be a silver lining for property buyers in a falling stock market. When the number of available properties for sale outweighs the size of buyers in the real estate market, it’s possible that lenders will alter their policies and offer competitive financing terms to attract more prospective buyers.
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Furthermore, some stock market investors may re-evaluate their investment portfolio in times of high volatility. Those who are more bearish could turn to the real estate market as a more secure investment and increase their returns. This, in turn, would increase the competition among property investors and home buyers. Consequently, there really isn’t a reason for property sellers to feel a jolt of panic.
To Sum Up
As you can see, changes in the stock indexes influence the performance of the real estate market. Property buyers watch the stock market to determine whether or not they are able to afford and benefit from buying. Although stock indexes have dropped significantly, the future isn’t bleak. Economists believe there is still plenty of time for the stock market to recover before anyone needs to worry. Plus, with Mashvisor’s tools, property investors can find the best and most profitable properties to invest in. To learn more about our product, click here.
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