by Lex Shan
Is a Spring collapse coming?
As Russia’s invasion into Ukraine continued, money flew into the US stock money just as our last month’s blog post predicted. This inflow gave temporary support to the stock market.
Looking at February 2022’s market data, we can see that the % of sales dropped pretty much across all the Bay Area counties. Many youtube videos (here and there, for example) have concluded that a Spring collapse is coming. They point to these facts as indicators that market failure is coming for real:
- A surge in mortgage interest rate.
- Fed announced the upcoming rate hikes and quantitative tightening
- Inflation is not slowing down
- Fed rate hike will turn the economy into recession
I agree that all the above factors will contribute to the weakening demand for homes. However, the authors of these videos failed to consider two unique facts:
In 2022, many sellers don’t need to sell.
Classical economics tells us that as demand drops, the demand curve shifts to the left, and thus the market will have a lower equilibrium price for homes. That’s all true. However, I’ll argue that we are in a different situation from the 2008 housing crisis. Back then, sellers (often banks) rushed to offload foreclosed properties from their balance sheet by dumping them on the market. In 2022, sellers who bought homes since 2008 have gone through much healthier underwriting standards. Therefore, they do have the income to afford the homes they own, even if home values go down temporarily.
Another interesting fact is that many homeowners today have taken advantage of the historic low mortgage interest in 2020 and 2021 and therefore have little pressure to sell. Consequently, we will see a reduction in the supply of homes when home prices drop. A shift of the supply curve to the left will help dampen the effect of reducing demand, thereby supporting the equilibrium price.
Cloud-based tech companies are more resilient to economic cycles than previous generation tech companies.
Think twice for those who think the Bay Area tech companies will suffer from the upcoming recession and higher interest rates. Most tech companies are cloud-based and subscription-based. As a result, their revenue is much more resilient to business cycles than previous packaged-software companies.
Take Salesforce as an example. Businesses that use their software may reduce the workforce and therefore reduce the license fee paid to the company by 5-10%. But, they can’t stop paying for that service altogether. This is because all their business data get hosted on Salesforce’s data center. Tech companies are the backbone of our daily life. They are monopolies that act more like utility and infrastructure companies. Think Google and Amazon. Recession or expansion, consumers’ behavior won’t change. People will still search on Google and buy on Amazon. Therefore, the economic downturn will have little effect on these companies’ revenue.
Tech companies will take advantage of the economic downtown to slim their expenses and fire the low performers in their workforce. There is no better time to cut costs than during a recession. But, keep in mind that they will always come out stronger than ever before.
To conclude, the softening of the housing market in the Bay Area will be a lot milder than the authors of the videos present. I definitely wouldn’t use the world collapse or crash.
Who will get hit the most?
In the case of reduced supply and demand for homes, Realtors are the group that will get hurt the most. There simply won’t be enough buyers and sellers on the market to support the number of real estate agents we have today. I predict many part-time and amateur real estate agents will exit the industry due to the shrinking number of real estate transactions.
