Understanding Real Estate Bubbles

When the bubble “pops” is when most people begin to understand a real estate bubble. Don’t let this happen to you. The best time to educate yourself about real esate and finance is right now.


Remember what the real estate market was like two years ago? Sellers unloading their homes for 200-300% or more than what they paid. The days of multiple bids and auction-style home selling came to an abrupt and painful halt for a lot of Americans. Many of my colleagues unfortunately succumbed to the mistaken belief that the real estate bubble would continue indefinitely. When you take a closer look at the financial situation of the middle class, you will realize that this cannot be. For example, in my hometown of Flagstaff, AZ the median home price skyrocketed to well over $300,000, well above the national average. Given that the median household income in Flagstaff is below the national average, it doesn’t take a degree in finance to tell me that not many people who live and work here can afford to purchase a home at that price or even half that. Unfortunately, many of my colleagues mortgaged their souls to buy “investment” properties when prices surged only to find that six months later they were unable to recoup their costs and were forced to unload their “investments” at a fraction of their cost. Instead of adding up to profit, their bungled investments led to huge losses.


When home prices jump 20, 30, 40% in a month, it is easy to imagine that the bubble will never burst. Many would be investors are lulled by the promise of sizeable profits. While it is true that real estate can be a promising investment venue, overextending yourself to obtain a position in an already hyperinflated market is never the right option. Remember, the most basic rule of investment is to buy low and sell high. When the price of real estate is already high, that is when smart investors are already selling and taking their profits. And they will sell and take their profits FROM YOU if you are lulled into the false belief that you can make a profit by buying a home at an already inflated price. Remember, if you can’t afford a $300, 400, or $500,000 home, neither can anyone else. Expecting home prices to go even higher and stay there is wishful thinking. The investors that made money off of the last housing bubble already owned their properties and were thinking about selling right around the time most people get around to thinking about buying. That’s how they do it, by taking your money.


We hear this all the time from friends, relatives, banks, lenders, and coworkers. “You can’t lose with real estate. The price will always go up.” They’re right. The price of homes, like inflation, will increase at a near constant rate…OVER THE LONG TERM. How much savings do you currently have? Is it enough to make an extra mortgage payment on a $300,000 home for 6 months? 12 months? 18 months? If you’re like most Americans, probably not. What’s worse is that if you financed your “investment” property with a variable rate loan thinking you’d unload it quickly, you’re now seeing a payment that’s increase $200-$400 a month. Yes, the prices of homes will always increase. The question is can you afford to hang onto your investment property long enough for that to happen? The next question is how much profit will you have to make to offset the costs of mortgage interest paid, monthly payments, and the expense of upkeep? Real estate is a lousy investment for people who don’t know what they’re getting themselves into, or who get themselves in above a price that the market can bear.

The bursting of a bubble shows that it was just that…a bubble. There is nothing permanent about the movement of any market. Smart investors understand the limitations of homebuyers and act accordingly. The right way to trade real estate involves knowing your market and knowing when a deal comes along, not getting sucked into the real estate market at hyperinflated prices.