Slightly higher inflation looks like it’s here for a while. So, what does this mean for homeowners and homebuyers?

First, per John Burns Real Estate Consulting, inflation is great for homeowners. Long-term, it creates upward pressure on the value of your home since the costs to build a comparable home are increasing. It also creates upward pressure on incomes. So your monthly mortgage will eventually take a smaller portion of your salary.

But what about buying a home? Now we need to consider timing. If inflation is consistent, that means that costs are continuing to rise. So the costs to build (and therefore buy) a home today will be less than the costs to build (and buy) that exact same home a year from now.

But the biggest factor right now is the mortgage rate. Inflation will eventually impact the interest rates we pay on our home loans. Today, lending rates are still near historic lows.

So, since construction costs are increasing and borrowing costs will be increasing, that makes today the best time in the near-future to consider purchasing a home.

Fortune.com published an article on August 26 showing a list of “overvalued” home markets. Right at the top of the list is Boise, Idaho selling at an 80.64% premium. What does this mean?

First of all, using the term “overvalued” makes it sound like the value isn’t really there. That a Boise homebuyer isn’t getting what they’re paying for, and that 80% of the investment they’re making in their home can simply disappear. Let’s dig a little deeper.

The Florida Atlantic University study the article was based upon used the Zillow Home Value Index over the past 25 years as a base point. Meaning that we’re comparing today’s home prices to home prices as far back as 1996. The graph below from the St. Louis Fed shows what’s been happening to Boise area home prices over time. This is what we’ve all seen over time, the home prices in Boise have gone up dramatically.

So home prices have gone up, but are they “overvalued”? This is a supply/demand issue. We’ve all seen those “greatest places to live” articles over the past 20 years that show Boise near the top of every list. That creates interest in the area and people wind up moving here. If the supply of homes can’t keep up with new demand (new local households being formed and looking for homes along with people relocating from other places) then prices increase.

The associate dean at FAU’s College of Business makes this statement:

“In the Top 10 markets, potential buyers might want to consider renting and reinvesting money that they otherwise would have put into homeownership.”

That actually proves that Boise’s home market isn’t overvalued but is actually responding to market demand. If home prices were truly higher than they were actually worth, then renting would be a viable option. This article by local news site boisedev.com shows how rent prices in Boise are increasing at the fastest rate in the country. Whether people are planning on renting or buying, there’s more demand than the market can currently meet.

Boisedev.com also refutes use of the word “overvalued” by the Fortune.com article and FAU study in an interview with a local real estate broker here.

This may sound a little nitpicky. We all agree that Boise home prices and rent costs have increased dramatically. But we shouldn’t be afraid that we’ll suddenly lose 80% of the value in our homes. Those prices are supported by market demand and people wanting to live in a highly desirable area.

On the May 19, 2021 New Home Insights Podcast presented by John Burns Real Estate Consulting, the host interviewed industry expert Barry Habib of MBS Highway.

In the podcast, Barry presents a different way of considering home affordability. His thoughts are summarized by the Real Estate Consulting website:

• You might see headlines like, “Home prices have increased 10% while incomes have increased by only 4%. Therefore, this market is becoming increasingly unaffordable.” This is a flawed interpretation.
• A 10% increase in housing costs does not require a 10% increase in income to maintain the same level of affordability. A 10% increase in a housing payment of $1,000 is $100. Assuming an existing income level of $5,000, an extra $100 needed for the increase in payment is only a 2% increase in income.

So even though median home prices have increased 10%, since hourly incomes have risen 4% and weekly incomes have risen 7%, those homes are actually more affordable than they have been in the past.

Inflation rates have recently gotten a lot of attention. A 4.2% inflation rate reported in April will definitely generate some discussion. And those discussions have raised concerns about the health of our overall economy and home affordability, specifically.

What does that 4.2% number really mean, though? If we look at the table below provided by USInflationCalulator.com, we can see the inflation rate by calendar year back to 2000. In 2017, the twelve-month inflation rate was 2.1%. In 2018 it was 1.9%. 2019 was 2.3%. and 2020 was 1.4%.

So, a 4.2% number means that we, as consumers, paid about 4.2% more for certain goods in April 2021 than we did for those same goods in May of 2020. That 4.2% number includes Food (which went up 2.4% over the past 12 months), Energy (which increased 25.1%), and essentially everything else (which are services and commodities that went up 3.0%).

Did you notice that big increase in Energy? That’s what’s driving the reported inflation number. Since inflation is essentially driven by increased economic activity, that must mean that we’re buying more energy in April 2021 than we did in May 2020.

Energy primarily means gasoline, which is almost 50% higher over the past year. That number makes sense to all of us. We weren’t travelling in May of 2020, since we were all in the middle of pandemic lockdowns. OPEC slashed production and refineries shut down. Now, in April of 2021 we can travel again, many are commuting back to the office and visiting with families, OPEC hasn’t increased production to meet demand, Texas refineries slowed production due to an historically harsh winter, over a dozen US refineries were shuttered in 2020 due to the pandemic, and now many of us have stimulus checks in our pockets which we’re using to catch up on missed vacations.

Since this inflation measurement is compared to last year, we’re really looking at an artificially low base-line number. Yes, we’d still be dealing with that Texas winter and production problems will need to be resolved before prices fall. But we’re comparing current spending to last year when we were all sitting at home watching Tiger King.

It’ll take a few more months to work through these challenges, but the Federal Reserve still expects inflation for the year to be about 2.2%. That’s slightly above the 1.8% historic average but a far cry from April’s 4.2%.

What does this mean for housing?

Firstly, housing has intrinsic value. Whether we own our home, rent, or live in an Airstream we all need a place to live. Even in the aftermath of the Great Recession people were still buying and selling houses.

Secondly, unless sustained inflation drives up mortgage lending rates, we’ll still see strong demand for homes. However, we’re all familiar with price increases for lumber, drywall, siding, copper, and steel. If we also consider the chance that mortgage interest rates could rise in the next few years, it creates pressure to buy now. We can get more for our money now versus later.

As hot as housing is right now, we’re not seeing any signs that this market will cool off anytime soon. Interest rates are still historically low. Housing demand is strong across the nation. By our own internal metrics, the Boise metro area has 22 days of housing supply on the market. The Tri-Cities area has 12 days of supply. Which means prices will continue to increase as motivated buyers compete for limited inventory.

Construction materials costs are expected to rise through the end of 2021. Inflation could be a concern for the next few months. Mortgage rates are still low. Some industry experts don’t expect housing supply to meet demand until the end of the 2020’s. Unless you’re willing to sit out of the housing market and wait for several years, it’s probably better to buy sooner rather than later.