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The Business Cycle and Buying a Home

Adapted from Real Estate ABC

Recession and Expansion

There are times when the economy is brisk and everyone feels confident about his or her prospects for the future. As a result, they spend money. People eat out more, buy new cars, and . . .

. . . They buy houses.

Then, for one reason or another, the economy slows down. Companies lay off employees and consumers are more careful about where they spend money, perhaps saving more than usual. As a result, the economy decelerates even further. If it slows enough, we have a recession.

During such a time, fewer people are buying homes. Even so, some homeowners find themselves in a situation where they must sell. Families grow beyond the capacity of the home, employees get relocated, and some may even find themselves unable to make their mortgage payment – perhaps because of a layoff in the family.

In the business cycle of real estate, there are buyers’ markets and sellers’ markets . . . and some markets in between. It is all based on supply and/or demand.

Supply and Demand – Inventory

During sellers’ markets, homes sell quickly and sellers have a lot of pricing power. As a result, prices rise more rapidly than at other times. During buyers’ markets, homes may sit on the market for a while before selling, so sellers become more flexible and may even drop their prices.

The market is determined by supply and demand.

In real estate, the relationship between supply and demand is calculated as “available inventory.” At the current sales pace, how long would it take to sell the total number of houses available on the market? That is how the real estate industry measures inventory.

Inventory is measured in weeks and months. Longer inventory times are associated with buyers’ markets. Shorter inventory periods are associated with sellers’ markets. Some buyers and sellers hope to time their purchase to take advantage of market cycles.

Timing Your Purchase to the Market Cycle

One problem with attempting to time your purchase to the business cycle is that even experts have problems accurately predicting the future economy. Even when they can, the real estate market does not necessarily move in tandem with the stock market or the economy as a whole.

Part of the reason is interest rates.

When the economy is doing well, interest rates are generally higher. The result is that fewer people can afford houses. When the economy slows down, interest rates fall, the “affordability index” moves up and more people can afford houses.

As you can see, this cycle does not move “in sync” with the rest of the economy. It is also influenced by how many people have jobs, whether they are well-paying jobs, and consumer outlook for the future. All these factors make it difficult to know, in advance, whether the housing market is going to boom or bust.

What makes more sense is the “buy and hold” strategy. Buy a home you expect to remain in for at least seven years or more.