It’s been 10 years since the collapse of Lehman Brothers and the ensuing financial crisis, and the economy appears to be thriving. The stock market just set a record for the longest bull run in modern history after going 3,453 days – nearly nine and a half years – without a major correction. Earlier this year, the U.S. unemployment rate dropped to 3.8%, an 18-year low.

Housing was at the heart of the crisis that produced the Great Recession. But now, for the most part, the real estate market is hot too: Prices are up, inventory is down and lending standards have eased, making it possible for more people to get mortgages. According to a recent FICO Research blog post, “The first clear trend observed around newly originated mortgages is that as we get further away from the Great Recession, underwriting criteria seems to have eased and a broader section of consumers are obtaining mortgages as a result.”

Housing Crisis 101

Still, it’s been a bumpy 10 years for housing. Recall the shoddy lending practices that helped trigger the crisis: A housing glut in the run-up to the collapse motivated lenders to issue loans to practically anyone who was willing to sign on the dotted line – even if the individual clearly could not repay – just to fill the surplus inventory. NINJA loans, issued to borrowers with no income, no job and no assets, were rampant, and the widely-issued 2/28 subprime adjustable-rate mortgage (ARM) set borrowers up to fail. These loans gave borrowers a below market “teaser” rate for the first two years, after which the interest jumped to a higher rate, often making payments unaffordable.

From the first quarter of 2006 through 2012, these subprime ARM mortgages had a higher foreclosure start rate – by far – than fixed prime, prime ARM, subprime fixed and FHA loans, as shown in the following chart from the Mortgage Bankers Association. Subprime ARMs also had the highest delinquency rates during the same period.

The debt from these loans was repackaged into investable products, including mortgage-backed securities, that were sold to banks, hedge funds, insurance companies, pension funds and even wealthy individuals. When borrowers started to default on their loans, it was disastrous to any financial institution (or individual) that bought or sold mortgage-backed securities. The fallout helped upend the entire financial industry. The stock market crashed, banks failed, housing prices tanked and millions of people lost their jobs, big chinks of their retirement savings and their homes.

Home Prices Today

The national home price index peaked in April 2006, reached its lowest point in March 2011 – about two years after the recession officially ended – and returned to peak in October 2017, according to a special report from real estate data company CoreLogic. Nevada saw the largest drop during the recession, with a 60% decline in home prices. Arizona and Florida weren’t far behind, dropping 51% and 50%, respectively, as shown in the following chart from CoreLogic, which reveals the largest and smallest peak-to-trough drops in select states.

“After finally reaching bottom in 2011, home prices began a slow rise back to where we are now,” said Frank Nothaft, chief economist at CoreLogic. “Greater demand and lower supply – as well as booming job markets – have given some of the hardest-hit housing markets a boost in home prices. Yet, many are still not back to pre-crash levels.”

While many states have recovered to their pre-crisis values, it’s not all good news. Stricter lending standards since the crisis have made it hard to get a mortgage, which, some in the industry believe, has contributed to tighter inventory and prices that are well beyond their pre-crisis peaks.

Faced with high prices, strict lending standards and competition from all-cash buyers, many homebuyers have no option now but to rent. In some metro areas, including San Francisco, only 25% of residents can afford to buy a home, according to the Urban Institute. In fact, the percentage of renters in 50 of the largest cities in the U.S. rose between 2006 and 2016, according to real estate website Zillow. Today, the percentage of the population that rents is at its highest level since 1965.

“We’re really in a hangover phase,” said Jonathan Miller, CEO of real estate appraisal and consulting firm Miller Samuel. “Just because prices are rising doesn’t mean we’ve recovered. [The market] is still distorted, and that’s because of credit conditions.”

Affordability Depends on the Market

When the housing market peaked in April 2006, nearly two-thirds of the most populated metro areas in the U.S. were listed as overvalued, and only five metro areas, accounting for just 1%, were considered undervalued. In March 2011, the market bottomed out, and only 27 markets – or 7% of the most populated metro areas – were considered overvalued. Today (as of Dec. 2017, the most recent data available), the most populated metro areas in the U.S. are at an almost even split between markets that are undervalued, overvalued and at value – meaning, at their “long-run, sustainable levels, supported by local market fundamentals such as disposable income,” according to CoreLogic.


 



OVERVALUED



AT VALUE



UNDERVALUED



JAN ’00: START



6%



87%



7%



NOV ’06: PEAK



67%



32%



1%



MAR ‘11: TROUGH



7%



42%



52%



DEC ’17: CURRENT



33%



35%



32%


As always, affordability depends on the market. Median per square foot home values in Manhattan, for example, are about 20 times higher than in places like Cleveland and Detroit. According to a report from JPMorgan, high prices are less correlated with mortgage debt and more concentrated in supply-constrained areas such as New York City, the San Francisco Bay Area, Boston, Seattle, Denver and Portland, Ore. (See also Is a Housing Crisis Brewing?)

Availability of Mortgages

Lending standards have eased in the last couple of years. An analysis published by CoreLogic of conventional conforming loans found that loans are being approved for slightly riskier borrowers – though, in a departure from the pre-crisis years, borrowers need to provide full documentation of their income and ability to repay. Fannie Mae, for example, raised its maximum debt-to-income (DTI) ratio from 45% to 50%, and both Fannie Mae and Freddie Mac started to accept mortgages with down payments as low as 3% in recent years. Today, U.S. consumers aren’t exposed to fluctuating rates nearly as much as they were pre-crisis, and only about 15% of the outstanding mortgage market is at an adjustable rate. Despite these positives, mortgage originations still have yet to reach their pre-crisis levels. (See our tutorial on Mortgage Basics.)

The Bottom Line

High prices and the lack of inventory, combined with tight mortgage credit and crushing student loan debt, have led to a fundamental shift toward renting. Indeed, homeownership in the U.S. peaked at 69% in 2004 and, despite a recent uptick, the rate remains at 64%. Other factors, too, have contributed to the increase in renting, including consumer preference and the desire for a more flexible lifestyle.

Ten years after the Great Recession, the economy is booming with a record bull market run, encouraging unemployment numbers and a growing number of real estate markets that have recovered to pre-crisis levels. Yet, despite today’s hot real estate landscape, there’s plenty of speculation that another real estate market crash is looming – not necessarily at a national level, but in metro areas that show a lack of affordability and rapidly rising house prices.