How “Switching Costs” Hold the Housing Market in Limbo w/Lance Lambert

This story was originally published at BiggerPockets.com

The housing market has seen unprecedented home price growth in the 2020s. Already, we’ve almost beat the past three decades, and we aren’t even halfway through our own. And now, with home price growth slowing, many people wonder how we’re still in a position of high housing costs and low inventory. The answer is simple: “Switching costs” are holding the housing market in limbo, and the more you know about them, the more our current situation makes sense.

Put simply, “switching costs” are not only the financial but also the psychological costs of selling your current home and buying a new one. With mortgage rates close to double what most Americans have locked in, there’s a substantial financial consideration when purchasing a new home. Lance Lambert, co-founder of ResiClub and housing data authority, is on the show today to talk about home prices, housing inventory, and how “switching costs” influence both.

Lance details how our massive home price acceleration put many Americans in an affordability bind, making “switching costs” higher than in recent history. So, how do we cross the threshold to enter a time when “switching costs” are low, prices are stable, and housing inventory returns? Lance walks through exactly how to tell the direction your local housing market is going in and the data investors must look at to get a better sense of how home prices and housing inventory are trending.

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Dave:

If you’re anything like me, you’re probably sitting around wondering if housing inventory is ever going to increase again, because where I’m sitting, I have a hard time figuring out just where it’s going to come from and I’m wondering, are homeowners locked in forever or are the switching costs of changing from one house to another going to prevent people from selling and moving for the indefinite future? This is what we’re getting into on today’s episode.

Hey everyone, and welcome to On The Market. I’m your host Dave Meyer, and we have a great repeat guest today. It’s Lance Lambert who is the former real estate editor at Fortune and Current co-founder and editor in chief at Resi Club, which is a media and data-driven research company who focuses on studying the housing market. I’ve been following Lance personally for quite a long time. He really understands housing market data and has a great way of explaining it, and today we’re going to dive into one of his passion topics, which is housing inventory. And we’re doing that because housing inventory might be the most important dynamic in the entire real estate investing industry right now. So we want to give you an update on what’s going on with it and how you yourself can do very specific levels of research to understand what’s going on in your market. So let’s bring on Lance. Lance, welcome back to the show. Thanks for joining us.

Lance:

Thank you for having me, Dave. Love being back

Dave:

On. Talk to us a little bit about what’s going on with inventory right now in the beginning of May 20, 24.

Lance:

So active listings, not new listings, active listings, what’s on the market, what’s available for purchase. Think of that like a car lot where if you go, you drive by and you start to see the lot’s empty. The person who’s running that car dealership is still buying new cars and putting them on the lot. They’re just getting absorbed by the buyers very quickly, so it’s probably a pretty hot car market. You’re probably not going to get great deals, right?

Dave:

I will be stealing that analogy by the way, because people ask me this question all the time and that is a great way to explain it,

Lance:

And if you drive by and it starts to get a little bigger, there’s more cars starts to get more. If they then have to start getting a spillover lot or something like that, you’re going to get some pretty good deals there and that’s what active listings are in the market currently available for sale. So during the pandemic there was actually a healthy amount of inventory coming on the market. It was just getting absorbed so freaking quickly that there was no actives because something would come on, it would have 40 bids and it would be gone, and so there was just not the actives. Whereas in this market we don’t have a lot of the new stuff coming on because what’s occurring is that switching costs are very high, which we could get into in a bit. Not many people are selling to go buy something else.

There’s not a lot of turnover in the market, but what is on the market is still not very high. It’s came up a bit from the pandemic, the active listings, but not very much. There’s not a lot coming on the lot and it’s not necessarily moving off super fast. We’re slowly getting some cars on the market, but what’s happening nationally with active listings is that during the pandemic we were down about 60 something percent from pre pandemic levels and we have slowly come up to now we’re only down about 35% from pre pandemic levels and months of supply is still not back to normal. We’re at three something months, still not up to what you would consider a healthier market around five ish or four and a half, closer to six. And so despite the fact that active listings are moving up in most markets, prices are still increasing because the supply demand equilibrium is slightly in the advantage right now still of sellers on a national basis.

Now you can find some markets that don’t fit into that. Of course you have Austin, Texas, which very quickly saw active listings shoot way up as that California pandemic migration kind of pulled back and slowed down and prices there had just gotten kind of crazy and out of whack, so they had a bit of a correction. And actives are still higher, but most of the country still, especially the northeast, the Midwest, southern California, still some of the pockets of the mountain west in some parts of the southeast too, especially outside of the bigger metropolitan areas, active listings are still fairly tight. And so prices this spring as we pass through the seasonally stronger, the rising in most of the country.

Dave:

You hit on something that I wanted to talk about, which was switching costs. Can you just tell us what that is first?

Lance:

Yeah, so the switching cost is both the financial cost and the psychological cost of switching. You

Dave:

Mean switch it like moving from one house to another, right?

Lance:

Yeah. So a part of a switching cost in a relationship is the breakup, right? It could be a psychological where somebody’s dreading it, right? Well, in housing, the psychological part of switching costs could be maybe if you switch, your kid wouldn’t go to the school you want them to go to anymore, you would be giving that up if you switch, maybe your property tax goes up because maybe you kind of have a lower property tax. Maybe you’re in California prop 13. So switching cost is both the psychological side and the financial. But what happened during the pandemic coming out of the pandemic and when inflation had taken off is we went through the rate shock, the mortgage rate shock going from 3% to over 7%. What that did is it’s the fastest ever deterioration in affordability and it shot the switching cost of switching from let’s say your 3% mortgage or four or two something and going out and getting a six and a half, seven, seven and a half, maybe even 8% depending on your credit score and the time you’ve tried to buy over the past year.

So that switching cost right now is just very high. The monthly payments are astronomical. The switch. Now over time, if rates come in a bit, the switching cost gets a little lower. Maybe somebody who has a three or 4%, maybe if we get to five and a half percent mortgage rates, they’re like, you know what? I’ve had another kid. Maybe I need to move somewhere else that’s closer to my work and it’s time to make a move. But over time, the things like having more kids lifestyle changes, maybe you’ve changed employers and your commute across town is a lot worse. Now those are also switching costs as well, and they go in the opposite direction, maybe pushing you to do the switch as they kind of put that pressure. And that’s why I love the term and it’s an economic term that I’m trying to apply more to housing. I think it’ll help people to make sense of what’s going on. And then what could occur in the future is we potentially get a slow grind up on the new listings as some people are just like F it, I got to do the move.

Dave:

This is fascinating. It is a term that I’ve used here at BiggerPockets in my job, we talk about if we change a software provider for example, it’s annoying. There’s all sorts of non-financial considerations about how long it’s going to take the training that you’re going to have to do. And I love this application of this same idea to housing because moving is a pain and there’s not just from the actual physical act of moving, but many of the examples that you gave there, and

Lance:

Let me give one more point with that, which is housing in general, even before the rate shock, it’s one of the things in the economy that has the highest switching costs already, and that’s why you don’t see a lot of people moving. The average tenure has moved up from seven years to 1112 in a lot of places. It’s just one of the things that people hold onto much longer. And a big part of that is the switching cost,

Dave:

But that was going up before the pandemic too, the average tenure that people were staying. So there’s some element of that that may persist even if the financial cost starts to go down because it does seem like that was kind of just perhaps a societal trend.

Lance:

And a big part of that is what occurred in the 2000 and tens to 2020 is you had a few different factors that pushed up tenure. You had this huge cohort of baby boomers, and as they moved into their older years, people as they age, they become less and less likely to move migration decreases and all of that stuff. So because you had a huge cohort and they were passing into their older years, that was kind of helping to push up the tenure. Another thing is the housing bust created a different type of lock-in which is a lot of people were underwater and they couldn’t move. That increased the tenure.

Dave:

That’s super interesting. I’m wondering, this is just pure speculation. You might not know the answer, probably don’t, but do you have any sense of at what point people are willing to bear these non-financial burdens? It seems like you have to get into some range. I don’t know what that is, but as a data analyst, I’m very curious what the range would be.

Lance:

The most important number to hit is you need the switching costs to come down enough to where they’re even eligible for the mortgage, right?

Dave:

Oh, that’s so interesting. Yeah. Yeah.

Lance:

A huge chunk of current mortgage owners could not afford their current mortgage at today’s interest rates. So that’s the number one threshold to hit is in easing of the affordability enough that they’re eligible, which that is the reason that Logan Moi isn’t a big believer in rate. He really essentially believes it’s an affordability, and that’s kind of his case there is they got to be eligible for the mortgages.

Dave:

Now that we’ve discussed what is happening with inventory and what switching costs are homeowners going to be still locked into their home forever, where does Lance see it going that and more right after this break? Welcome back to on the market podcast. So what is your feeling on the lock in effect? Do you think that we’re going to see it break anytime soon or with rates the way moving in the direction that they are? We sort of just stuck in this situation right now.

Lance:

So a couple of things, which is one with active listings, I don’t believe that active listings are a part of the lock in effect. Active listings are really more of the supply demand equilibrium. So you take a market like Austin, they’ve seen a decrease in new listings because there’s a lock in there. People who have the 3% mortgages are less likely to sell. There’s a reduced probability of sale due to the affordability, but their actives have went all the way back to pre pandemic. Whereas you take another market, Hartford, Connecticut, they have the lock in effect. There’s a reduced probability of sale, new listings are down, but their active listings are down 80% from pre pandemic levels. So what occurred in Austin is just there was a bigger demand hit that outweighed the decline in the supply, whereas Hartford, the demand hit and the supply hit kind of went in tandem, and so it essentially just stayed in the same place it was during the pandemic housing boom.

So I believe that over time the lock in effect could ease and we could start to see some of the new listings slowly start to creep up, and we are up year over year for new listings, but I think you need a bigger affordability improvement to get more of these people willing to sell because the switching costs are still so high, a lot of people don’t want to give up that 3% mortgage rate and go get a seven. So I think it’s going to be something that lingers for a while in terms of a reduced probability of sale. And so right now, as of today, the net affected mortgage rate is essentially 3.9 or 4%. So if you take all the outstanding mortgages in the US, it comes out to about 4% on them and it’s slowly ticking up, but the market rate is still 7.4, so there’s still a 3.4 percentage point difference between the effective mortgage rate and the market rate. And so as long as that gap is that big and affordability is this pressurized, I think there’s going to be some type of lock and effect on the market where there’s a reduced probability of sale. And so I think some of these places are going to go up in terms of the length of tenure that a homeowner holds onto those properties.

Dave:

Interesting. So are you of the belief then that the only reason inventory is moving up, like you said, it is starting to tick up, is that there’s more of these people who are finding it necessary to sell their house. The people who can choose not to are still choosing not to, but there are always sort of these circumstances that will require someone to sell their house, and that’s sort of why it’s going up.

Lance:

Yeah, I think that’s a part of it. There’s also the fact that demand and supply are so low. So if certain markets see something that kind of pushes supply up more and demand doesn’t react with it, then you start to see actives moving up. That’s exactly what we’ve seen in southwest Florida where southwest Florida in September, 2022 was hit by Hurricane Ian. I believe it’s the third costliest hurricane in US history in terms of property damage. And in that market, if you go and you search on realtor.com and you put damaged in the search key, you’re going to see a ton of these properties. They need new roofs and all of this stuff. And actually it’s so high because half of the properties that I’ve seen that have damaged in their property description is because they’re saying, Hey, my property’s not damaged because there are so many damaged properties for sale.

And so you take a market like Cape Coral and Punta Gordon, these places that were hit by the hurricane, just like everywhere else in the country, they’ve seen the price overheating and they’ve seen the mortgage trade shock that occurred everywhere, but with just this little bit of extra supply. And then the fact that coming out of this, there was a home insurance shock throughout these pockets of Florida that was just enough to hit demand more the insurance part, and then this little bit of extra supply has come on the market. So what’s happening now is about 16, 17 months straight, those markets have been up for inventory. They haven’t even seen a rolling over seasonality wise, so those would be places to watch. But then there’s other places where new listings are slowly creeping up in the northeast and the Midwest, but because the supply demand equilibrium is still in a place where it advantages the seller, those new homes are just getting absorbed and active listings aren’t necessarily coming up as much as one would think, at least not quite as much as you’re seeing some of the national numbers move up.

Dave:

We do have to take one more quick break, but what’s going on with home prices? Everyone wants to know that and we’re going to cover it right after this break.

Welcome back to the show. Let’s jump back in. Lance, I want to kind of switch gears a little bit. I guess it’s all related. And talk a little bit about, actually an article you wrote recently just about home prices and there was kind of this incredible stat here that you said that just shows home price growth by decades, and I’ll just read it for everyone here in the nineties, all of the nineties home prices went up 30% in the two thousands. Home prices through that decade went up 47%. During the 2010s, they went up 45%. All pretty great growth rates so far in the 2020s, just four years into it, it is at 47.1%, basically the same that the two thousands had in the entire decade.

Lance:

Yeah, the number was so high when you just said it. I had to think for a second. But yes, that is,

Dave:

That’s just incredible to think at. But so I think there are some opinions or people feel like, can this keep going? It’s already grown a decade’s worth in four years, even with low inventory. Does something have to give here?

Lance:

Well, one thing I think it’s important to note, and I just published this on Twitter today and I didn’t post it as an article yet, but inflation this decade is up 20.7% already through 51 months. That’s already more than all the inflation we saw last decade. We’ve already surpassed the decade and probably in about I would say the next 18 months, we will surpass the entire two thousands decade.

Dave:

That makes a lot of sense. And

Lance:

Then a couple of years after that, we’ll surpass the entire 1990s decade. So that’s one of the wildcard here where, yes, housing has went up a lot, but everything has went up a lot too. The dollar’s worth less, 20.7% worth less than when the decade started. So that’s one part, but is it sustainable? Well, we did see a bit of a correction off of the really robust period during the pandemic housing boom. So I got another stat for you. Over the past 21 months, home prices are up about 1.3%, so we’re 1.3% according to K Schiller above the 2022 peak in June, 1.3% above. But in the previous 21 month period, we were up 33% for prices. So that was really unsustainable. And so while it might not feel like a correction, especially in these places where prices have went up even a little more above 2022, we have had a correction in terms of a deceleration off of a extremely unprecedented and unsustainable level of price growth and overheating during the pandemic housing boom.

So we’ve come off of that now. We are starting to see on a year over year basis, we’re just a little bit above historical norms. Kehilla right now is up 6.1% year over year, and historically the past 40 years home prices of average 4.4% for annual growth. So we’re now on a national basis slightly above what we have been historically and now for readers who are saying, Lance, you just told us we’re only 1.3% above the 2022 peak, but we’re up 6% year over year, how is that possible? Well, it’s because in the second half of 2022, prices fell 5%. So we’ve rebounded that decline is why now can we sustain this 6% growth? That’s fairly high, especially with inflation at 3%. That’s real home price growth, not just nominal. And

Dave:

Just so people know, sorry to interrupt you, Lance. The difference is real home price growth is inflation adjusted and nominal is non inflation adjusted. Sorry, go on.

Lance:

Yes. So most of the time when you hear things reported, it’s nominal and then real is if you adjust it for inflation, which is totally confusing because you would think real means not what the nominal means because the word real, but yeah, so what we need more is more active listings to get up to decelerate that growth further to potentially put us into somewhere sustainable. But at the end of the day, housing doesn’t necessarily do what we want it to do. It does what it does, the market does what it does, and so we have to go with whatever is happening in the real world just because we think it’s going to have to go one way or another way. It doesn’t mean it necessarily has to. We’ve seen a lot of that over the past several years and several decades really. So that response I just gave you is I don’t exactly know what will happen to home crisis over the next years, and we are fairly high.

So one would assume that at some point we have like a 1990s, which in the 1990s inflation was slightly above home price growth and we had a healing of the housing market. We haven’t necessarily had a healing. We’ve had the first step, which is we’ve decelerate off of this really robust period of growth, but as of right now, still a lot of the fundamentals are out of whack with the historic norms. And is there a reversion in terms of affordability? We’ll have to kind of wait and see, but housing at the end of the day, it’s hard to predict and there’s a lot of factors at play.

Dave:

Yeah, I don’t want to make you make bold predictions of anything specific here, Lance, but I’ve often talked about how I think that inventory numbers, if you’re trying to identify what’s happening in your local market, most of this conversation so far has been talking about national statistics and trends, but if you wanted to get a sense of where things are going in the next three to six months, do you think it’s still fair to say that places that have low inventory that haven’t recovered to pre pandemic levels are likely to still see price growth for the next, let’s just say for the remainder of 2024?

Lance:

Yeah, so I was very specific when I said I don’t want to make predictions two to six years out. It’s because long-term, I feel comfortable talking about 10 years out, prices will be higher in 10 years. That’s how it kind of works. Yes. Now in the next 24 months, that’s where you follow the active listings, right? That’s where you kind of get a sense of what’s happening in the supply demand equilibrium. And that’s really the bread and butter of my coverage at Resi Club with my housing tracker. I do 3000 counties across the country, 800 metropolitan areas. I often do zip code level analysis for inventory and prices, and that’s where I feel a lot more comfortable. And like you said, Dave is the places where resale inventory is still very low and there’s not a lot on the market are probably the places where prices are going to continue to rise the next 6, 12, 18 months.

That’s what you would expect based on the historic norms, because the active listings are essentially the technicals of the market. Now, if you look at the places where active listings are moving up very quickly and are back to pre pandemic levels, those are the places most susceptible to price softening and the places where inventory has reached pre pandemic and they’re potentially going to continue to rise fast, those are the places that are probably going to barrel into some type of correction mode. And really that increase in inventory is the market fighting off price declines. That’s what happened in oh 5, 0 6. Active listings were moving up very quickly. Prices weren’t falling, but what it was is the sellers, they put their homes on the market and they were like, I’m not moving off my price. I’m not doing that. But once the economy caught up to them and they had to sell, that’s when the prices started to fall and the prices fell along with inventory going down.

So the housing crash and those housing crash years active listings weren’t moving up anymore. They were actually coming down. So you look at the places in southwest Florida where actives are moving up fairly quickly right now, prices aren’t coming down a lot, but if that active listings number gets high enough and maybe the economy softens more, then maybe that’s when you start to see some of the price softening. So yes, I feel a lot more comfortable talking about the next 6, 12, 18, 24 months. And really if you want to get a sense of what could be coming there, follow the active listings in your market, and really the number I would take, go find out how many active homes are for sale in your buy box, your zip code, your county, your metro, and then go find how many homes were available for sale in that exact same period in the same month in 2019. So if you’re taking April 20th, 2024, go compare it to April, 2019, and that will give you a sense and do it your buy box and zip code county and your metro, and that will give you a sense of your market, and then you could go compare that to the national numbers. At least that’s how I would do it if I was assessing my personal buy box.

Dave:

So I think just as investors, it’s really important to think about what your strategy is and what Lance just said, because if you’re a buy and hold investor and you have confidence like Lance does that home prices are going to appreciate over the next 10 years, then you do want to look at this short-term information. But you also want to be looking at long-term market fundamentals that are going to dictate how much demand is going to come into this market over the long run, not just current supply conditions. If you’re a flipper or looking to do some sort of quick exit strategy, then you’re really going to want to focus almost exclusively. You want to look at other stuff, but really want to hone in on the type of data that Lance was just talking about. Lance, before we get out of here, anything else you think our audience should know that you’ve been covering in your work recently?

Lance:

Yeah, so watching what’s happening to active listing, watching what’s happening to home prices. If people want to read Resi Club, they can go and they can Google resi club analytics.com, sign up for my free newsletter. I do around five issues a week for the free, and then I do another three for my premium group called REI Club Pro and REI Club Pro. You get access to the Lance Lamber price tracker and the housing tracker mine, where I have 3000 counties, 800 metros. And I do all the numbers that I just said in terms of like five-year change for inventory, four year, three year, two year, one year. And then I do the same for prices, and you can quickly compare the whole country. And I also periodically send out zip code, a level analysis, and then things like home insurance rates and stuff like that. Again, it’s resi club analytics.com if readers want to sign up for the newsletter.

Dave:

Awesome. Well, thank you so much, Lance. We appreciate your time and your sharing your knowledge and work with us today.

Lance:

Thank you, Dave.

Dave:

Again, another big thanks to Lance for sharing his knowledge and work with us. If you want to check out his work or connect with Lance in any way, we will as always put his contact information in the show notes. Thank you all so much for listening. We’ll see you for the next episode of On The Market. On The Market was created by me, Dave Meyer and Kaylin Bennett. The show is produced by Kaylin Bennett, with editing by Exodus Media. Copywriting is by Calico content, and we want to extend a big thank you to everyone at BiggerPockets for making this show possible.

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In This Episode We Cover

  • “Switching costs” explained and why they’re keeping the US housing market in limbo
  • The “lock-in effect that’s suppressing our housing inventory and keeping owners from selling
  • Inflation’s sizable role in the massive home price appreciation we’ve been seeing
  • The slow recovery in active listings and how far behind pre-pandemic levels we are
  • The one data point you must follow if you want to gauge how healthy your local housing market is
  • And So Much More!

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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.

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