Effects of the Housing Market on the Stock Market

The housing market is a huge part of America’s economy. The “middle-class” is the largest socioeconomic group in America. This group is regarded to have the ability to afford to buy their own homes. As such, the middle class own the most number of homes. Keep in mind, the middle class are not considered rich and therefore, do not have a lot of disposable income. Because this group of people does not have a lot of disposable income, certain economic events that negatively affect this group can have wide repercussions on the entire economy.

As I stated, the middles class are regarded as having the ability to buy their own home. This, however, does not mean that the middle class can afford to pay cash for the homes that they purchase. As such, they must take out loans and mortgages from the bank in order to purchase these homes. These people borrow money from a bank or other lending institution at a certain interest rate. As these people pay back the loan, the interest is calculated into the monthly payment that the borrower makes. As such, the bank is paid back its original loan amount plus a certain amount of interest.

The payment of interest is one of the primary ways that a bank or lending institution makes money on a home loan. However, what happens if people start defaulting on these home loans? The bank secures any home loan they make with the home itself. Therefore, if you default on your mortgage payment, the bank repossesses your home (called a foreclosure). The home is taken in order to pay for the loan that you owe the bank. However, banks and lending institutions are not in the business of holding real estate, therefore, it will try to sell the property as soon as possible (usually at a break even amount or at a loss) in order to obtain cash. As a result, banks and lending institutions do not get the interest and may not get back the original loan amount, not to mention the costs the bank or lending institution had to incur in foreclosing on your home. Therefore, the bank or lending institution has lost money. If a lot of people do this, financial companies (like banks and lending institutions) can face financial hardships.

Such hardships would have a widespread, negative impact on the financial sector of the economy. As such, the financial stocks will decrease. Because the financial stocks make up a large part of the stock market, such losses will negatively impact the entire stock market. On the other hand, in a good economy when middle class people are not defaulting on their home loans and the interest rates are good thus prompting more people to borrow money, financial stocks realize large profits. As such, financial stocks do well, and people start buying into the stock market to capitalize on that strength.

The truth is, every sector of the economy can negatively affect stocks if they negatively perform or experience losses. And, just like the housing market, if these other sectors do well, this positive performance will have a positive impact on the stock market.