Factors Affecting Real Estate Cycles

Real estate cycles around the world are affected by some factors. These factors or variables are influenced either directly or indirectly by the economic forces of demand and supply. Some of these variables affecting real estate cycles, which are discussed below, includes; population growth and characteristics, social attitudes, the supply of money for financing, business activities, the supply of housing, tax rules and regulations among others (Brueggeman, & Fisher, 2006). Typically, real estate cycles are the ups and downs experienced by the real estate industry. Researchers interested in determining future investment plans studies the past real estate cycles which include the real estate market activities. Cycles of real estate are classified as short term and long term. Some of the variables affecting real estate cycles occur in the short term while others occur in the long term.

Typically, short-term real estate cycles run in a period of three to five years. This kind of cycles is also known as financial cycles (Brueggeman, & Fisher, 2006). Here, variables influencing real estate cycles are associated with the prevailing economic conditions since markets are responding to the current economic conditions. The two significant variables affecting short-term cycles of real estate to be discussed, business activities and the supply of money for financing, as they are explained below:

Supply of Money for Financing

When the government of the specific country is faced with continued massive budget deficits, it is forced to borrow funds, and this hugely affects the borrowing market. As a result, funds available for real estate finance are reduced. Due to the reduced supply of money and increased money demand, interest rates shoot upwards. Increased interest rates depress the housing market since they discourage potential investors from investing in real estates. Interest rates have similar effects on residential real estates and Real Estate Investment Trust (REIT) which is an equity investment (Sagalyn, 1990).

 For residential real estate, as interest rates increases, the cost of obtaining a mortgage increases resulting in a decrease in desire to acquire a residential property hence prices of this residential estates reduces. Due to the low money supply in the market low sales on real estate properties are made even when prices are low. For Real Estate Investment Trust, when interest rates decline than the yield of REIT becomes more attracting and as a result, their value increases.

Business Activities.

General business conditions in different areas give rise to various market activities of real estates. For instance, areas with good business and experiencing growth usually have a high demand for real estates. In case supply of real estates is higher than its demand in these areas then prices of the available property decreases. In the realization that demand of real estates is higher than the supply, investors construct more buildings to cater for the excess demand.

In the event that supply of these built properties exceeds demand then a supply surplus occurs and prices of these estates reduce. This cycle goes on and on. Regions with deteriorating business activities are unattractive to settle in therefore there is the low demand for real estates (Boyd, 2017).

Taking a look at the long-term real estate cycles, variables that prevail are mostly associated with time. These cycles run from ten to fifteen years. Here, we do not focus much on market conditions since they fluctuate. The reason behind fluctuations is that real estate takes time to be established entirely therefore within this period of putting a real estate project on the ground many market activities will have already taken place.

These cycles are long term since activities undertaken during the project takes time, this is seen in various aspects such as from the idea of acquiring land to the actual acquisition of the same; through engineering and preparation required for the land; during construction of buildings, promotions and sales made. Profits, in this case, are enjoyed when the project is completed. These factors are also known as physical factors. Lets now take a look at variables affecting long-term real estate cycles.

Population Characteristics.

Population characteristics such as an actual number of people, age, gender and the population mix are some of the significant variables affecting the long term real estate cycle. Some few years back, migration of people from the rural areas to the urban areas for better living standards was the norm. People migrated to the suburbs, and as a result, more residential and commercial properties were constructed. Currently, the reverse situation is happening.

Due to factors such as overpopulation, traffic jams, and congestion, people are moving out of urban centers and relocating to rural areas. As a result, rural areas are experiencing an increase in unexpected economic growth measured partly by growth in real estates. Therefore, local markets of different regions are influenced by population migration present.

In the United States of America, Census conducted in the year 2000 reveals that specific regions continued to record an increased growth rate in their population. The Western side region grew the most. This affected growth of real estate properties in a positive manner in the Western side of the country. The Northern and the Midwest grew at a stagnant rate while the Southern side increased its population significantly. The primary reason as to why population growth rate deferred from different areas was because Americans were leaving the wet, cold regions for the dry, hot areas.

Population growth rate has continually increased demand for better housing. In California, the USA, for instance, reported a growth rate of 13.6% from 1990 with an increase in more than 33.8 people. Better housing has been provided in this state to cater to the needs of its growing diverse population. In some way, provision of better housing in California has contributed to the success of its economy.

As a result of increased population growth in this state, demand for advanced housing has outstripped supply of the same and hence raising the cost of acquiring a house. Immigrants in the country also contributed positively to the state’s housing market. According to 2000 Census, Asians constituted 10.9% of total population of the state and people of Latino and Hispanic origin added up to 32.4% of the population in California (Boyd, 2017).

Differing birth rates and family structures influence housing mix for both larger and smaller units. In the USA, a higher proportion of the population is comprised of the elderly. These are the baby boomers born between the year 1946 and 1964. Currently, fewer children are born, and the adults are living longer. This has led to increased demand for nursing homes and other forms of housing to host the older adults. 

The population of the USA in the year 2000 was divided as follows:

§ 30% comprised married couple with no children.

§ 25% included a married couple with kids.

§ Another 25% comprised single persons.

§ 10% included single parents with kids.

§ Another 10% comprised households who are non-family.

In the USA, demand for non-traditional real estate has continued to increase over the years. Population immigrating to America has caused a robust felt the effect on market trends of real estate in the country. More homes and commercial buildings are demanded in the dry, hot areas of the country as more people are migrating to those areas.

Political Factors

Real estate cycles are also affected by political decisions made by both the central and local governments of different regions. The government may encourage the development of real estates in specific areas with the aim of attracting more voters in the area. For example, in California, the local government urged industries to shift to new locations by inducing concessions.

This was a move aimed at limiting new construction and in turn satisfying voters demand. Due to the suspension of construction of new building in the California coastlines, prices of the existing buildings have increased tremendously due to their high demand and as a result owner of these buildings enjoys excellent benefits regarding profits.

In South Africa, politics in 2008 affected the South African Property Market in a negative way. Politics then were negating residential property performance. A direct political impact caused was that of emigration. Residents were emigrating from their residents to other areas thereby selling their residential properties at a rate which was alarming. By the second quarter of the year 2008, the percentage of residential homes sold by sellers emigrating to other regions grew from 9% of previous year’s final quarter to 18% (Case, 1992). Indirectly, politics in this country affected real estate cycles in the following ways:

Increasing rate of inflation. This increased prices of necessities, and as a result, little money was saved to invest in real estates.

The slow growth rate in the country together with low formal sector job creation affected disposable income of people. This, in turn, discouraged investment in real estates.

The attitude of Society.

Societies today have greatly influenced real estate cycles across the globe. Most members of societies in developed countries have always wanted ‘smart growth’ and as a result, have established more advanced real estates. Taking Dubai as an example, it’s clear that the social thinking of its citizens has dramatically impacted the development of real estates. Dubai is known as a city with broad goals and growth targets.

 Its possession of a ‘can-do’ attitude among its members has seen itself rise to be the third most dynamic city in the world as stated in the 2014 City Momentum Index (Case, 1992).  It possessed the Top Quintile in the Socio-Economic and Commercial Real Estates. Therefore, attitudes owned by members of society greatly influence cycles of real estates.

Taxes

Changes in income taxes by governments has affected real estate cycles. Some of these changes encourage investment in real estate while others discourage the same. In the USA, Tax Reform Act of 1986 abolished a good number of benefits previously enjoyed by investors (Case, 1992). Some of the terminated benefits included:

§ The excess loss incurred from property investments no longer shielded other incomes.

§ Capital gain income special treatments were eliminated.

§ Depreciation time periods have been extended

These reforms came to reduce profits realized through investments in real estates. This tax reform act eliminated many investments which were tax-shelter based leading to loans and savings disaster resulting to a hasty deteriorating real estate industry in the 1980s and early 1990s.

According to Silve Oak Managing Partners, LLC, tax issues have both a positive and negative effect on real estate cycles. They state that high taxes discourage investors and as a result, there is a decrease in the establishment of real estates. On the other hand, tax incentives such as tax reductions, tax exemptions, tax reliefs among others, attract new businesses and industries leading to growth in real estates. In the Tax Relief Act of 1997 in America, homeowners were exempted from capital gain taxes on profits derived from selling their residence. This encouraged selling of personal properties thus affecting a boom in the real estate market.

CONCLUSION

Real estate cycles are affected by many factors, and some have been discussed above. The cycles of real estate include periods of depression and peak periods. Some of the factors leading to a boom in real estate market include; immigration to specific areas which lead to increased demand in residential properties, positive attitude among members of the community towards the growth of real estate industry, tax incentives provided by the government and supply of finances in the economy. On the other hand, real estate cycles undergo depression due to the following factors; increase in taxes, political elements curbing operations in real estates, emigration among others.

It is essential to understand the key factors that drive the real estate market to achieve an inclusive assessment of a potential investment.

References

Brueggeman, W., & Fisher, J. (2006). Real Estate Finance & Investments (Real Estate Finance and Investments) (p. 784). Boston: McGraw-Hill/Irwin.

Boyd, B. (2017). Real Estate Financing. Law Journal Press.

Case, K. E. (1992). The real estate cycle and the economy: consequences of the Massachusetts boom of 1984-87. Urban Studies, 29(2), 171-183.

Sagalyn, L. (1990). Real estate risk and the business cycle: evidence from security markets. Journal of Real Estate Research, 5(2), 203-219.