Real Estate Investment Cycle
A property cycle can be seen as a logical sequence of recurrent events reflected in demographic, economic and emotional factors that affect supply and demand for property subsequently influencing the property market.
The first recorded pioneer of studying property cycles was homer hayat (1895–1984) in 100 years of real estate values in Chicago (1933). It is widely recognised that property (along with other forms of investment) follows a predictable cycle. The property cycle has three recognized recurring phases of Boom, slump, and recovery. The cycle follows a consistent pattern which can be accurately assessed by following the trends of a collective basket of Key Driver (as outlined below).
Property cycle phases
The property cycle follows a predictable pattern as sure as night follows day. This pattern reveals three distinct phases being Boom followed by Slump followed by Recovery before the next Boom commences etc. The property cycle (unimpeded) will always follows this pattern so a Boom cannot precede another Boom without first experiencing a Slump followed by a Recovery before the next Boom can arrive. The property cycle must have a ‘free market’ where property ownership is attainable by citizens without, significant government restrictions on ownership or, any form of monopoly.
The following is an overview only of some of the elements evident in each of the property cycles phases.
When the Boom phase commences most people fail to believe the Boom will last and think it is just a short term anomaly because they do not have the context of understanding the property cycle.
What is observed during the Boom phase includes:
- Rents rise to levels which place significant financial pressure on tenants
- The time it takes for a property to sell after being listed for sale reduces markedly
- Property prices rise
- Yields fall as prices rise proportionally more than rents rise
- There are few mortgagee/forced sales
- Property finance is easy to obtain and there are a number of new lending products making borrowing easier
- People borrow against their increased house values and spend this money on consumer items (TVs, boats, holidays, cars, etc.)
- There are many property seminars competing for investor dollars
- Property is a hot topic in the media. Initially there is much speculation about how price growth will continue, but later in the Boom the media turns its attention to the reduced affordability of property
- There is a lot of discussion about how this Boom will never end i.e. “it is different this time” and expectations that there will be no subsequent Slump phase
The Slump phase typically commences a lengthy period of time (often years) before most people realise the property market is in the Slump phase, as there is a delay between the shifting trends of the ‘Key Drivers’ and the impacts that are evidenced in the property market. The slump is usually the longest phase in the property cycle. The longer and bigger the preceding Boom, the longer and harder the subsequent Slump is likely to be. In contrast to popular opinion property values do not necessarily fall during a Slump, values may simply stall for a lengthy period.
What is observed during the Slump phase includes:
- Increased vacancies of rental properties
- Reduced cash flow for investors
- Property price growth stagnates and/or property values fall
- The length of time to sell a property increases markedly
- Increased number of mortgagee/forced sales
- Property finance is more difficult to obtain
- There is much ‘doom and gloom’ about property values being too high in the media
- Many property investors experience lower cashflow and sell down their property portfolios to some degree, or completely.
The recovery phase is always much shorter than the slump or boom phases.
What is observed during the Recovery phase includes:
- Increased rents and cash flows
- The length of time to sell a property reduces
- Property prices begin to increase
- Much confusion in the media reigns about whether recent property value growth is sustainable
- Many potential property purchasers delay buying because they evidenced value falls or a slow market in the preceding slump.
Which Real Estate Cycle stage are we in today?
A cycle doesn’t really have a start or a stop. There are no magic indicators either that can point us exactly to the beginning or end of a specific stage.
However business common sense and economic and housing commentaries by respected economists can help us.