When you’re looking to invest in commercial real estate, you’ll find that the real estate market can go through numerous cycles, each of which poses different challenges to you as an investor. While a couple of market cycles provide a poor environment for investing, it’s possible to garner success in any market. The following offers a comprehensive guide on the factors that affect the different market cycles and the secret for success no matter which cycle the market is in.
The housing market is directly tied to the economy. When the economy is performing well, the housing market also tends to perform well. In general, there are four separate cycles that the real estate market can be in. Understanding what these cycles are is the key to successfully investing in commercial real estate.
By identifying what the current real estate cycle is, it’s easier to ascertain how long the property should be held and what the correct exit strategy is. You’ll also be able to accurately predict your future income as well as how much the property will appreciate in the foreseeable future.
There are many different factors that can affect the real estate cycle. Four of the primary factors to consider include demographics, the current economy, interest rates, and government policies.
The demographics that a population consists of can dictate what the market cycle looks like. If there are substantial changes in the makeup of a population, the market cycle can shift considerably.
As mentioned previously, the state of the economy can determine what cycle the market is in. When the economy is performing well, investors and home buyers tend to be more confident in buying homes. They believe that the investment they make will perform well in the coming years because of how the economy is performing.
If the economy is going poorly, consumers tend to fear that their investments will also perform badly in the foreseeable future. Even though most investors avoid purchasing commercial real estate during bad economic periods, it’s possible for your investments to be successful if you place your money in the right properties.
Interest rates invariably affect how likely consumers are to purchase or invest in real estate. If interest rates are high, buying a home or commercial building might seem like a poor financial decision because the high-interest rates will lead to high monthly payments. Low-interest rates cause buying activity to increase substantially since financing a home is cheaper.
When the real estate market or general economy is undergoing a sluggish period or prolonged recession, the government will sometimes put forth one or more policies that are aimed at boosting the market. These policies could come in the form of tax credits, tax deductions, or subsidies, all of which work to incentivize consumers to purchase or invest in real estate. When these governance mechanisms are put into place, the housing market cycle can change significantly.
There are four primary real estate cycles that you should be aware of, which include the expansion, recovery, recession, and hypersupply cycles. While it’s possible to garner success in any of these market cycles, keep in mind that no expansion or hypersupply cycle has occurred without resulting in a recession. However, recessions don’t usually last for a lengthy period of time.
During the expansion cycle, job growth is usually strong, the economy is typically improving, and there’s a higher demand for housing. The general public is typically confident in the economy during this period, which means that they are more likely to purchase real estate and generate demand. The secret for success in this cycle is to invest in and develop properties that accommodate the market’s tastes. With this approach, you should be able to sell your investments for a higher amount than their market value.
The recovery cycle is oftentimes difficult to identify since it tends to come at the end of a recession. If you happen to tailor your investment strategy to the recovery cycle while the market is still in recession, you could make sizable investment mistakes. During this period, rental growth is usually stagnant, which is also the case with new construction.
While the market is in a recession, it’s essential that you search for any sign that indicates the market is about to recover. If you can react quickly to these signs, you could obtain a commercial property for less than its market value right before these values start increasing. While the recovery period is ongoing, you could focus on adding value to your properties so that they can be sold or rented out once the expansion cycle begins. During this cycle, timing is everything.
When the market is in a recession, supply will be much higher than demand. During this cycle, property owners typically suffer from higher-than-usual vacancy rates. To obtain new tenants, many property owners will feel pressure to offer lower rental rates, which reduces the amount of income that can be obtained from an investment.
While recessionary periods are difficult times for nearly everyone, the secret for success is to invest in highly distressed properties that you believe you can turn around once the market is out of a recession. During a recession, distressed properties can usually be found at heavy discounts. You can hold onto these properties until the market conditions are right.
The expansion cycle can quickly turn into the hypersupply cycle, which tends to take investors and buyers by surprise. The hypersupply cycle is notable for having supply slightly outstrip demand. This cycle could begin because of too many properties being on the market or a quick shift in the health of the economy.
When this cycle occurs, many property owners make the mistake of liquidating their properties because they believe the properties will go unsold or will be left vacant. During this cycle, it’s highly recommended that you take the buy and hold approach to your investment portfolio. You can purchase properties at a decent price and hold onto them until the market improves.
While it’s easy to invest during an expansion cycle, you shouldn’t limit yourself to only investing when doing so comes with hardly any risk. Even though investing in other cycles may seem riskier, it’s possible to be successful when taking the right approach.
Disclaimer: The views and opinions expressed in this blog post are provided for informational purposes only, and should not be construed as an offer to buy or sell any securities or to make or consider any investment or course of action.