The wicked reason home prices have increased. Or have they? (Warning: there’s a little bit of math involved but hang in there, it’ll give you the right tools to decide).

We hear a lot about home prices being elevated and with the notable exception of 2008 this has been an ongoing trend over decades.
In absolute terms, there is no question that this is definitely true: the so-called Case Shiller index, which measures home prices nationwide, stood at 100 in January 2000. It is now towering above 221 (221.64 exactly). That’s a 121 percent appreciation which shows that real estate is a great investment.
But of course, to measure an investment performance, you need to subtract inflation from the appreciation. If we do that, real estate is still a great investment since prices have increased by 53.98% since 2000. So the net appreciation of real estate in real terms (after inflation) is 44% (221% divided by 153% gives 144%). That’s a fantastic performance for an asset which doubles as shelter for your family. Let’s not forget that the main benefit of real estate is to be your home. You don’t live in stocks and bonds, you do live in your home.
So yes, home prices have appreciated and you can look at them as being elevated. Nevertheless the picture changes once you take into account the cost of housing derived from mortgage repayment. From 2000 to 2020, 30 Year mortgage rates have moved from 8.18 percent to 2.90 percent. As a result of this, the monthly payment on a 30 year $100,000 mortgage has plummeted from $746.35 to $416.23.A $746 monthly payment at today’s interest rates repays $179,311, 79% more than the same payment at 2000 interest-rate. Consequently, buyers are ready to purchase a pricier home, hence house prices appreciation.
Therefore, the total appreciation explained by inflation and lower interest rate amounts to 158%(144% inflation times 179% mortgage improvement equals 258%, so 158% more). This compares to the 121% we mentioned.
Which means that in real terms and interest rate adjusted, home prices have actually depreciated or at least not kept up with inflation and lower mortgage rates.
OK, so that’s nice and dandy but what does all this mean for us in real life? Well, two main conclusions: if you’re a seller, most home appreciation has been due to falling interest rates. But interest rates are now at zero therefore the likelihood of further appreciation has actually significantly diminished. Not much can be expected in terms of home appreciation going forward compared to what has happened up to now, so don’t waste time
As a buyer, interest rates hitting zero mean that they have only one way to go: up. So the particularly attractive monthly payments available these days might not be here tomorrow: to avoid seeing interest rates move back up and payments increase, a swift move to purchase makes absolute sense.