Understanding Economic Bubbles in 5-Minutes

As a Realtor, I am constantly answering questions about San Francisco market trends. The question I hear the most is when I believe the next real estate crash will occur. Sometimes, this is phrased as when I think the "tech bubble" will burst.

"Will the housing market crash?" Yes, eventually it will. Although it's impossible to predict exactly when and why it will happen, historical trends show us that the US economy works in roughly 5-7 year cycles. For those of you who are wondering about when the next bubble (definition) will burst, here is a quick overview on the 4 stages of an economic cycle:

  1. The Expansion: An expansion is a period of strong economic growth. Signs of an expansion stage include low unemployment rates, new business creation, and consumer confidence in the market.  There can be numerous drivers for this phase. For example, the Dot-Com Bubble was fueled by internet company IPOs backed by venture capitalists. The U.S. Housing Bubble was driven by low interest rates and relaxed standards for issuing mortgage loan products. 
  2. The Peak: Eventually the expansion reaches a final peak. There’s a point when the rapid growth can no longer be sustained. What are some examples of unsustainable growth? In 2000, it was the widespread implementation of unsustainable business models among those aforementioned internet companies. In 2008, it was the cumulative effect of fraudulent business practices employed within the mortgage and securities industry.
  3. The Trough: The market's natural reaction to unsustainable growth is to contract. Internet companies went bankrupt after using up the capital from their IPOs, and unqualified lenders began defaulting on their subprime loans. The ripple effect of these crises always affects a family’s biggest financial asset: their home. This low point in the economy, characterized by low employment levels and low economic activity, is referred to as a trough.
  4. The Recovery: After weathering out the trough period, the market begins to recover. New job sectors arise through advancing technologies, and investors slowly regain their confidence in the economy. As the recovery gains momentum, new ideas and opportunities feed the next expansion.

"What stage is our current economy in?" Right now we're transitioning from a recovery to an expansion, and San Francisco's rapid real estate appreciation is a reflection of our booming economy. As you can see in the graph above, 2012 marked the end of our trough period and the beginning of our recovery period. A good indication of our bullish economy is when Janet Yellen decided to raise the Federal rate in December.

"What does this mean for people looking to buy and sell real estate?" San Francisco is unique in that our properties tend to retain their values more so than other areas of the United States. Take a closer look at the overall trend of the graph. Despite two major economic downturns in 2001 and 2008, homeowners that held onto their properties made significant gains from their investment. The City’s mix of innovative job sectors and sophisticated homeowners help contribute to our valuable real estate market. So while economic cycles will undoubtedly rise and fall with the tides, San Francisco's overall property values will continue to appreciate over time.