Is the Real Estate Cycle a Thing?
Money isn’t everything, but when buying real estate it can mean a lot. That’s why we are so careful when shopping around the market. We all want to invest our money wisely and get into a new property at the best time. One of the first things we may hear about when looking to invest is to watch the real estate cycle.
What is the Real Estate Cycle?
According to Harvard University, cycles were identified as early as 1876. American political economist Henry George had observed a curious cycle through which real estate markets move and broke them into 4 phases.
The first of these phases begin with a major economic downturn like a recession. In these conditions unemployment is high, no one is spending money, and land is cheap. With no where to go but up, government lowers interest rates to spark investment, and wise investors take advantage.
Phase 2 is the transition from recovery to expansion. Companies and investors buy up or rent most of the available buildings. Vacancy becomes scarce, and landowners raise the rent. When rent goes up, new construction for rental properties go up. But, new apartments should lower the rent again right? Not so fast. It takes time to design, permit and build property. With 2 to 5 years of development time, the market continues to expand without inventory relief.
This actually accelerates the price of rent. Worse yet, the price of land begins to reflect not the existing market conditions but rather the anticipated rent growth. This is the beginning of a bubble.
Phase 3 is the realization of ‘Hyper Supply’. In this situation, new construction begins delivering the inventory beyond real needs. Rent decreases due to competition, but the economy at large is stronger and in a period of inflation.
The government will typically raise interest rates to control inflation at this time. This increases borrowing costs and brings developers to a halt. However, there are still many developments coming to completion that are feeding the Hyper Supply problem. Vacancy increases and landowners cannot afford to keep their properties. Foreclosures follow.
This fuels phase 4 and the recession begins.
Since 1800 this cycle has followed a predictable 18 year model, except for World War II and the mid-cycle peak created by the Federal Reserve’s doubling of interest rates in 1979.
So is it a good time to buy? Will the market continue to support further Real Estate growth? History seems to say yes. Investors and developers should be good to go until 2026, a view held by other market economists.