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Business as Usual? What to Expect in the 2021 Real Estate Market

Insights» Upcoming Trends & Changes

February 1, 2021by Rick Sharga, RealtyTrac

Read the full February edition of Originate Report here.

By any reasonable measure, 2020 was an unusual year. A global pandemic, a worldwide recession, a contentious U.S. Presidential election and ongoing unrest across the country ensured that there was no such thing as “business-as-usual.”

Residential Real Estate: Dramatic Drop, Rapid Recovery

The residential real estate market was a roller coaster ride in 2020, starting off on a high note, falling off a cliff in late March when shelter-in-place orders were levied, and then recovering much more rapidly than most economists and analysts expected during the second half of the year. Despite the dramatic drop-off in sales during the usually crucial spring homebuying season, existing home sales were up by about 2% on a year-over-year basis at the end of November according to the National Association of Realtors® (NAR), with expectations of strong December numbers. New home sales were even stronger, running almost 21% ahead of 2019 numbers at the end of November.

The momentum behind these sales was unanticipated demand, driven by three factors:

  • Demographics – the average age of a first-time homebuyer was 35, and the largest cohort of the Millennial generation was between the ages of 29-34, rapidly approaching prime homebuying age.
  • Historically low mortgage rates – reaching a low of just over 2.5% for a 30-year, fixed-rate loan, purchase loan activity was 26.5% ahead of the prior year according to the Mortgage Bankers Association.
  • And, the pandemic itself accelerated a trend that had already begun – urban apartment renters becoming suburban homeowners. Young families – especially those with wage earners who could now work from home – began exiting high-priced cities in search of larger homes which could accommodate a home office and provided more space between neighbors.

These drivers should continue to keep demand at high levels through 2021, although inventory of homes for sale – both existing and new construction – is at the lowest level since NAR and the National Association of Homebuilders began keeping these records. Both indices showed less than a 2 ½ month supply of homes for sale, well below the traditional 6 months’ supply.

This strong demand and low inventory – especially severe at the entry level – combined to drive prices higher, even as wages stagnated due to the COVID-19 recession. Double digit year-over-year price increases, left unchecked, threaten to offset the savings delivered by the sub-3% mortgage rates and pose affordability challenges for many buyers.

Fortunately, there appears to be some good news when it comes to inventory: homebuilders ended 2020 with several months of over one million housing starts – not enough to meet demand – but significantly better than what’s been built since the end of the Great Recession. Industry analysts also expect to see existing homeowners begin to list more of their homes for sale as COVID-19 vaccines become more widely distributed and there’s more confidence that the pandemic is being brought under control.

The single-family housing market should continue to be strong in 2021, both in terms of sales and price appreciation. While this runs counter to traditional trends (higher unemployment usually leads to fewer home sales and lower prices) the atypical nature of the recession explains this. The job losses in this recession were concentrated in a handful of industries – retail, restaurants, travel, tourism, hospitality, and entertainment – where the employees are largely low, hourly-wage earners who tend to be younger and have less formal education. These factors suggest that many people who lost their jobs were renters rather than homeowners.

Commercial Market Winners and Losers

The Rental Market

The Rental market is likely to experience some short-term pain before recovering and regaining its momentum. The government’s CARE Act, along with state and local legislation, has called for a ban on evictions, which the Biden Administration has indicated should be extended “at least through the end of March”. This puts landlords – many of whom are small “mom and pop” investors – in a financially precarious position. Many landlords are highly leveraged and need to collect rents to pay their mortgages. Renters whose income has been disrupted due to the pandemic may not be able to pay their rent now, but landlords can’t replace them with paying tenants, and in many cases won’t ever be able to collect past-due rents. This situation could drive landlords into bankruptcy; result in their properties being foreclosed on (which puts the tenant’s occupancy at-risk); or lead to the sale of the properties at distressed pricing.

The good news is that the government included $25 billion in rental assistance in the January stimulus package and is discussing more financial support in subsequent programs. The better news – is that demographics suggest the market will recover quickly once the recession ends. Household formation rates should rise strongly post-pandemic as young adults move out of their parents’ homes, and the demand for rental properties should be strong.

Retail and Hospitality Markets

Two other sectors of the CRE market – Retail and Hospitality – have been decimated by the pandemic. Retail had already been struggling, but the government shutdowns and subsequent recession along with a huge acceleration in online shopping have struck a fatal blow to many retail brands and scores of small retailers and restaurants. MBS delinquency rates in the retail sector continue to be much higher than at any time since the last recession, and it’s likely that it will take a few years (and probably a lot of adaptive reuse of brick-and-mortar storefronts) for this sector to recover.

Similarly, the Hospitality sector has suffered tremendously as COVID-19 stopped most travel, particularly business travel. Occupancy rates ended the year 40% below 2019 levels, causing severe financial hardship for many hoteliers. Many owners of limited-service hotels are small investors who may not have the financial strength to weather a long dry spell; MBS delinquency rates remain extremely high in this segment as well, and we’re seeing a surprising number of hotel properties in the foreclosure pipeline in our RealtyTrac database.

The Industrial Market

The Industrial sector has benefitted from the pandemic, as the need for warehouse and distribution facilities to support e-commerce grew dramatically. The work from home movement also increased the need for cloud computing facilities. Both trends are likely to continue to drive Industrial property sales (albeit at a slightly lower rate) in 2021.

The Office Market

The Office market has not been devastated like Retail or Hospitality, probably due to the longer-term leases its clients have. But there are fundamental changes taking place that are worth considering.

First, the percentage of sales activity in suburban markets has grown relative to sales in central business districts (CBDs) during 2020; as more businesses realize that a distributed workforce may be more productive and less expensive, this trend could continue. Second, it’s likely that existing offices will need to be reworked to provide a healthier environment (more space between workers, for example), but simultaneously find their tenants will require fewer employees to come into those offices. It’s too soon to predict the demise of the CBD office market; but it seems certain that the pandemic will have a lingering impact.

2021: Where Do We Go from Here?

If 2020 taught us anything, it was not to make predictions with too much certainty. But both the residential and commercial real estate markets appear to be poised for a good – but not necessarily outstanding – year in 2021.

The Residential market should grow this year, benefitting from continuing strong demand, low interest rates, reasonable credit availability, and improving inventory levels. There will be an increase in mortgage defaults, but for reasons too numerous to detail here, a huge wave of foreclosures is highly unlikely.

The Rental market remains a potential weak spot until the economy fully recovers, which probably won’t happen until 2022. But this segment of the market may also benefit from the numerous initiatives that have been championed by the Biden Administration.

The CRE market will likely see continued strength in the Industrial sector and relatively stable performance in the Office market, as employees are once again allowed to return to their places of work. But the geography of future office growth may shift to secondary and tertiary urban markets and even suburban areas rather than high cost, high tax bigger cities. The recovery of the Retail and Hospitality sectors are likely to take longer than the other sectors and are most directly tied to the country’s ability to get the pandemic under control. In the interim, it’s reasonable to expect higher-than-normal levels of delinquencies and defaults.

Hopefully, it’s not too much to ask that at some point in 2021, we can all get back to business as usual.

About the Author:

An accomplished executive with over 25 years of experience, Rick Sharga is the Executive Vice President of RealtyTrac, a leading foreclosure search and discovery website used by real estate agents and investors. One of the country’s most frequently-quoted sources on real estate, mortgage, and foreclosure trends, Rick has appeared regularly over the past 15 years on CNBC, CBS Evening News, NBC Nightly News, CNN, ABC World News, FOX, Bloomberg, and NPR. Rick is a founding member of the Five Star National Mortgage Servicing Association, a member of the Board of Directors of REOMAC, and was included in the Inman News Inman 100, an annual list of the most influential leaders in real estate.

Read the full February edition of Originate Report here.