In my last blog post, I covered the basic elements of real estate market analysis.
In case you missed it: Real Estate Market Analysis: A Primer for CRE Executives
In this post, I’ll delve into the question of the real estate market cycle. Understanding the cycle is a fundamental element of understanding the broader real estate market. However, before discussing the real estate market cycle, we should look more closely at what we mean by the real estate market.
There are many elements that make up the real estate market. This blog is focused on commercial markets as opposed to residential markets. Specifically, our market definition includes office, industrial, retail, and hospitality markets. Also the markets are further differentiated into urban and suburban markets, building class (A,B,C) and locale (city and regional markets).
The 4 phases of the real estate market cycle
Real estate markets follow a predictable 4 phase cycle. A Harvard blog post labeled the four real estate market cycle phases as:
Phase 1: Recovery; Phase 2: Expansion; Phase 3: Hyper Supply; Phase 4: Recession.
Real Estate Market Cycle Phase 1 (Recovery)
Here the markets are on an upward trend; essentially coming out of the last down turn. In many urban and suburban markets, buildings are suffering from high vacancies, declining rentals, and some cases of bankruptcies and foreclosures. Unemployment is relatively high, and demand has diminished.
Real Estate Market Cycle Phase 2 (Expansion)
The markets are showing signs of recovery. Tenant demand is rising, along with rental rates. Real estate developers are beginning to buy and build new properties. Space absorption is increasing, and the general commercial markets are steadily improving. These trends vary by city and sub-markets, but in general this is a period of recovery.
Real Estate Market Cycle Phase 3 (Hyper Supply)
This is the period in the cycle when markets boom, and become overheated. Most recently, this phase occurred in 2005 with many markets becoming over built, and supply exceeding demand. The result is declining rents and growing vacancies.
Real Estate Market Cycle Phase 4 (Recession)
This is the bottoming of the market. (Remember the recession of 2008?) Foreclosures abound, bankruptcies depress the property markets, tenancy contracts, and many properties stand vacant for months. But the markets finally bottom out, and the general economic scene shows signs of recovery. The cycle repeats itself, with tenant demand increasing, rents rising, and occupancy improving with improved employment trends.
Where are we now in the real estate market cycle?
Most pundits believe we are in a long-term period of economic expansion and growth.
Brandon Turner of Bigger Pockets.Com wrote the following:
“Many people subscribe to the ‘18-year real estate cycle’ theory, first outlined by economist Homer Hoyt in the 1930s and later re-popularized by economist Fred E. Foldvary, who accurately predicted the 2008 collapse of the real estate market in his report, The Depression of 2008. The 18-year real estate cycle looks at the previous 100 years in American housing prices and, except for a long winter caused by World War II, has found that the market has generally operated on an average of an 18-year cycle from peak to peak, seeing a peak in 1989 and again in 2007.”
Learn more: The Real Estate Development Game
Understanding the real estate market cycle is a key aspect of market analysis.
In the next blog post, I’ll focus on a specific real estate market and examine the critical factors that underscore the market’s dynamics.
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Still shopping for lease accounting software to help you implement the FASB & IFRS changes? Find out what you may have overlooked: 7 Things to Consider Before Choosing a Lease Accounting System.