To understand if another real estate crisis is likely, you need to understand what led to the 2008 housing crisis and what has been put in place to prevent it from happening again. Here are four issues to consider when evaluating this risk.

Causes of the 2008 Crisis

The US housing bubble peaked between 2005 and 2006. After this peak, interest rates began to creep up. This caused home prices to begin to drop in 2006 and 2007. This decrease in real estate value meant that many borrowers could not refinance. It did not take long for many homeowners to become underwater with their home loans. The high availability of subprime mortgages combined with CDOs and strategic defaults all combined to form the perfect storm in the housing market.

CECL

Current Expected Credit Losses (CECL) is an accounting practice that is designed to mitigate the risks that banks take on with bad debt assets. Without getting too far into the weeds, this standard changes the factors that lenders take into account when evaluating the risk of default. All major financial institutions are expected to make the transition to these practices within the next year or two. By tightening controls, the housing market will become more regulated.

Regulatory Changes

A series of regulatory changes were put in place to protect the financial markets against another housing crisis. These programs have strengthened the capital, liquidity, and risk management of many of the nation’s largest banks. More stringent measures are now in place to protect against home loan defaults. Borrowers are no longer allowed to use their homes as banks without sufficient financial standing.

The State of the Market

The US has seen a period of prosperity since the 2008 financial crisis and the stock market is healthier than it has ever been. Although housing prices began to cool down in 2018, it is unlikely that they will reach the lows that were seen over a decade ago. Because of the regulatory changes put in place, banks are limited in how much risk they can take on and pass to their customers. Subprime mortgages are tightly regulated, and homeowners are not able to use their homes as banks as freely as before.

It is impossible to predict with certainty what the housing market will do. However, with the right safeguards put in place, you can guard against financial demise when investing in the housing market.

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