This article digests the major housing developments that occurred in 2020 and details firsttuesday’s forecast for the years ahead.

Good or (mostly) bad, 2020 was a banner year

2020 was a year for the books. Dominating the headlines were a pandemic, a recession and an election year to boot.

These big stories impacted the real estate market in a myriad of ways. Job losses have left millions unable to make housing payments, but eviction and foreclosure moratoriums have put those effects on pause for the moment.

The pandemic prompted social distancing measures, which stalled home sales and construction. However, the recession also prompted the Federal Reserve (the Fed) to drop their benchmark interest rate to zero, causing mortgage interest rates to hit historic lows in 2020. Stimulus payments gave consumers and real estate a brief boost, but ultimately just pushed off the major economic losses to another year.

The majority of firsttuesday readers anticipate a second economic decline in 2021, according to a recent poll. When that happens, what will happen in California’s housing market? Read on for our digest of the major housing stories in 2020, and our forecast for 2021 and beyond.

The pandemic’s economic impact

When the recession began officially in February 2020, the country was receiving news of the coronavirus (COVID-19) beginning to arrive in the U.S., which sent consumers into hiding. But long before the pandemic’s arrival, the recession was already set in motion.

Beginning in mid-2019, the yield spread went negative, forecasting a recession to arrive within the next 12 months. This spread indicates economic conditions as interpreted by bond market investors and Fed economists and is a reliable indicator of future recessions and even recoveries.

Therefore, the pandemic served as an additional catalyst for the recession already in play, accelerating and lengthening job losses and lost economic activity.

Business failures have been the catalyst for these jobs lost, as thousands of businesses that closed temporarily at the start of the pandemic have now closed permanently. As of September 2020, the number of businesses to close permanently stood at roughly 100,000 nationwide, with 20% of small businesses estimating they will close by the end of 2020.

Further, the latest data shows personal incomes and consumer spending falling in October and November 2020. This reduced income is both behind the job losses and worsened by the lost jobs, a vicious cycle.

Here in California, 2.7 million jobs — over 15% — were lost from the December 2019 peak in jobs to the bottom in April 2020. As of November 2020, jobs have rebounded somewhat but are still 1.35 million or 7.6% below the pre-recession peak.

The result has been millions of homeowners unable to pay their bills. Nationally, 5.5% of mortgaged homeowners are in a forbearance plan as of mid-December 2020, according to the Mortgage Bankers Association (MBA). A greater 7.7% of mortgages on one-to-four unit residences are delinquent as of Q3 2020, with 5.2% in a major state of delinquency or behind 90 or more days on their payments.

Renters are even worse off, with 18% behind on their rent nationwide at the beginning of December 2020, according to the U.S. Census Bureau. The vast majority of renters behind on their rent consist of low-income households.

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The government’s response to the recession

The government’s response to the wounded economy?

Stimulus, in the form of the Coronavirus Aid, Relief, and Economic Security (CARES) Act passed at the outset of the pandemic, consisting of:

  • payments to individuals;
  • additional unemployment benefits, which expired in July 2020;
  • forgivable loans to small businesses; and
  • for homeowners, mortgage forbearance programs for government-backed mortgages.

The government also passed foreclosure and eviction moratoriums put in place to keep residents in their homes. Further, to keep the housing market moving, appraisal waivers were expanded, particularly to the benefit of refinances.

However, as we head into 2021, the fate of government intervention is still up in the air. Heading into the new year, Congress reached a deal for a second, more subdued stimulus program. This second stimulus will extend the eviction moratorium another month until the end of January 2021 and offer another round of reduced individual payments.

Finally, and perhaps most notably for homebuyers and sellers during 2020, the Federal Reserve (the Fed) dropped their benchmark interest rate to zero, in turn impacting all other types of interest rates.

Historically low interest rates prop up housing

Mortgage interest rates continued to descend to new historic lows throughout the year. In all, the average 30-year fixed rate mortgage (FRM) rate is now a full percentage point below a year earlier, translating to a 10% increase in buyer purchasing power due to the interest rate decrease alone. This has resulted in home price increases, despite reduced sales volume and the bleak economic picture.

Record low interest rates have also provided a major boost to refinancing, propping up mortgage lenders despite the significant sales slowdown that occurred mid-year. In fact, refinances made up a whopping 79% of California’s mortgage volume in Q2 2020, amounting to three times the refinance volume occurring a year earlier.

The Fed’s decision to drop interest rates is a common response to a recession. With the Fed’s benchmark interest rate — the Federal Funds rate — now at zero, the Fed’s ability to shape borrowing and lending conditions in 2021 is limited. Further, as part of the second stimulus bill, Congress is limiting the Fed’s powers to create and operate its emergency lending programs to small businesses and local governments.

As long as the Fed refuses to take the controversial step to “go negative,” interest rates won’t go much further below their present level. The Fed has indicated it will keep its benchmark rate at its present zero-bound rate through at least 2023.

Sales volume, prices at odds

California home sales volume took a steep dive during the first half of the year, followed by an unseasonable rebound during the summer and fall months. Overall, 2020 sales volume is expected to end the year slightly below 2019, continuing the trend of annual decreases here in California experienced since 2018.

While home sales volume slowed, California home prices went the opposite direction. Average low- and mid-tier prices were 9% higher than a year earlier as of September 2020. High-tier prices were 8% higher than a year earlier.

Typically, home price movement follows consistent sales volume movement within 6-12 months. So, why have home prices continued to rise, even though sales volume has steadily declined over these past three years?

There are two big reasons for the home price rise:

  • a lack of multiple listing service (MLS) inventory, creating a supply-and-demand imbalance; and
  • historically low interest rates, which have increased buyer purchasing power, allowing homebuyers to qualify to purchase more expensive homes with the same mortgage payment.

In fact, the increase in buyer purchasing power is roughly the same as home price increases in Q4 2020. Therefore, without the support of lower interest rates and the subsequent purchasing power increase, it’s logical to assume home prices would have flattened or even declined this past year.

Going forward, interest rates won’t be able to fall much further than their present lows and homebuyers will see their purchasing power flatten in the coming months. Moreover, 2020’s price bump is unsupported by rising sales volume or incomes, rendering it unsustainable.

Home prices will trend down in the next couple of years, the result of historic job losses and rising 90+ day mortgage delinquencies, which will lead to a wave of distressed sales when the foreclosure moratorium lifts in 2021. With downward home prices, homeowners will see their home equity fall and be less willing to sell at a lower profit, or worse, a loss. Once home prices bottom around 2023, real estate speculators will begin to interfere in the market, distorting home prices with momentum purchasing.

Construction continues to decline

Social distancing measures and restricted credit caused construction to slow across California in 2020. Single family residential (SFR) construction is on track to end 2020 10% below 2019 and multi-family is on track to end the year an even greater 20% below 2019, according to the U.S. Census.

Commercial construction all but halted for all types except industrial, since absorption rates have stalled or are falling throughout the state. Commercial mortgage lending declined by roughly one-third in 2020.

Residential construction hurdles in 2020 included:

  • social distancing measures, which slowed current construction projects;
  • tightening mortgage credit as lenders find themselves in a liquidity trap; and
  • more cautious builders eyeing declining sales volume and rent drops.

However, high demand for more MLS inventory will cause construction to rebound in the coming years. Until then, the long, laborious road to a full employment recovery will put downward pressure on construction in 2021 and 2022.

2021 and beyond

2020 was characterized by a pandemic and economic recession, both with deep impacts on the housing market. What will be 2021’s big developments?

The foreclosure and eviction moratoriums will end in 2021. It’s likely they will be extended a few more months beyond their current end date of January 2021, but they will eventually end. When that happens, the flood gates will open, and evictions and foreclosures will hit the market with distressed inventory. The end result will be that home prices and rents will both drop.

While the second stimulus will provide a brief boost to the economy in 2021, it will merely push the second economic downturn back into late 2021 or 2022, depending on the extent of any further stimulus provided. But more intervention is needed beyond the limited handouts being offered under the second stimulus. Beyond payments and limited extensions to keep people housed, the government needs to address the underlying job losses by funding undercapitalized businesses to ensure their long-term survival and/or fulfilling their role as the employer of last resort by creating their own job programs.

Home prices will start a two-year decline in 2021, bottoming in 2023, at which point the sustained housing recovery will be able to begin.

The good news for real estate professionals: unlike the recent Great Recession, the 2020 recession does not hinge on the housing market. So far, low interest rates have saved the day for mortgage lenders and for home sellers seeking higher prices. But real estate brokers, agents and mortgage lenders who want to continue making a living in the lean months ahead need to get creative, branch out into adjacent areas of practice and overproduce when possible. For now, this includes preparing for the influx of distressed sales that will hit the market in 2021-2022 and the investor-speculator wave that will follow.

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