What Causes Market Corrections?

Definition of "What causes market corrections?"

To claim that the American housing market has known its fair share of ups and downs over recent years would be an understatement. The situation has been more like a wild ride on a merry-go-round. Foretelling with 100 percent certainty where this ride takes us in 2023 or the next couple of years would be mission impossible. Will the US real estate market continue to thrive moderately, or will we face a market correction? What does real estate market correction imply, and what causes it?

What is a market correction, and whom should you contact to inform yourself?

The global economy will always be subject to cycles of expansion and contraction. The real estate market is no exception. Under such circumstances, housing market corrections are periods of decline, experiencing decreasing property prices, low demand, and increased supply. In other words, we will be dealing with a buyer’s market, which is one of the critical characteristics of a market correction

Suppose you’re a first-time homebuyer. Or you wish to dip your toes in property investments in 2023. In that case, we have two recommendations before rushing into this exciting new adventure! First, contact experienced local real estate agents in your area whose expertise is indispensable for a transaction. 

Secondly, inform yourself whether the market you wish to invest in will experience a correction. Always look at the big picture and consider broader economic, financial, political, and demographic factors! These are revealing indicators to decide whether it’s worth your time, money, and energy to bet on real estate despite correction.

Economic factors are decisive in the emergence of housing corrections.

One of the primary drivers of real estate market corrections is the state of the broader economy. Economic downturns, such as recessions or financial crises, can significantly impact the real estate market. You’ll hear many concerns regarding “Is the US economy in recession?” The answer is no, but the precursors, such as a high inflation rate in the global economy and a low GDP, are all given for another recession to kick in.

During periods of economic downturn, rising unemployment rates reduce consumers' purchasing power. As a result, a decline in housing demand follows. As demand for homes and real estate investments diminish, property prices tend to drop, triggering a correction in the market.

Discover how interest rates and monetary policy influence housing corrections!

The US real estate market is literally codependent on interest rates. When interest rates are low, you can borrow money cheaper, and various mortgage loan types become more attractive for potential homebuyers. As a result, demand for homes surges, and home prices increase. This happened in the second quarter of 2020 when the Federal Reserve lowered interest rates to help the US economy get back on track after the pandemic shock.

However, the Fed had to hike interest rates to fend off inflation and stabilize the economy. Therefore, borrowing became more expensive, reducing demand and causing prices to correct. No wonder many investors wondered why the housing market turned against them.

What happens when there’s a discrepancy between housing supply and demand?

An imbalance between housing supply and demand can trigger real estate market corrections. During accelerated economic growth, demand for housing can outpace new home constructions. Thus, a housing shortage surfaces. You can imagine how this scarcity will drive up the prices of already existing properties. 

On the other hand, the market can become oversaturated (again) as more homes are built to meet demand. Then, prices will fall - a vicious circle. Presently, (reasonably-priced) building materials are hard to come by due to inflation and the ongoing Russian-Ukranian War.

Other socio-political factors determining a market correction

(Some shady and speculative) investors might perceive an upward trend in real estate prices. Then, they may invest in properties hoping to make a quick buck. This surge in speculative activity can create an artificial increase in demand. Consequently, an unsustainable rise in home prices can ensue. However, as reality catches up with this speculative bubble, demand will nosedive again. And prices correct themselves.

Secondly, region-specific factors such as job growth and industry performance can influence the demand and supply dynamics. Regional differences in economic performance can lead to corrections in particular areas. Simultaneously, other regions can remain entirely unaffected.

Conclusion

We must accept that real estate market corrections are natural happenings in a country’s (or region’s) economic cycle. A myriad of reasons can trigger a correction, sometimes multiple causes panning out simultaneously. Think of economic conditions, interest rates, housing supply-demand disparities, speculative activity, government policies and interventions, and regional variations! 

All of these factors play a role in shaping the market’s direction. Whether you see a crisis or opportunity in housing market corrections is up to you!

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