While there are many factors to pay attention to as an investor of any kind, one of the biggest indicators that people seem to look to, no matter what is the market cycle. For real estate investors, the real estate cycle can be valuable to understand, but it can create a lot of stress and anxiety if relied on too heavily for decision-making.
So how does one even understand the real estate cycle? How much does it actually matter?
We're here to lay it all out.
3 Things Turnkey Investors Need to Understand About the Real Estate Cycle
There are Four Phases of the Real Estate Cycle
If you are not familiar with the four phases of the real estate cycle, let us break them down for you briefly:
Expansion — This stage is consistent with a strong market economy. The real estate market shifts to keep up with growing demand with new home construction, rising rental occupancy and rental and property prices, along with increased developer interest. This is often when investors interested in selling will “flip” properties for a profit.
Hyper Supply — When a market’s economy shifts into decline, hyper supply begins. Because construction continues, supply overrides demand. Here, rental rates and occupancy slows. For short-term investors and home-sellers, this can be a challenging time as the value of their properties and investments drops off. However, those with long-term leases have little to worry about. Because the signs of hyper supply can be subtle, construction often continues and pushes the market into the next stage if not addressed.
Recession — If the signs of hyper supply are ignored, the market shifts into a full-blown recession. Property values drop off, vacancies increase as demand decreases, new construction wanes, and foreclosures may increase as mortgage issue arise. For the savvy investor looking to make long-term gains, a recession could be an ideal time to buy.
Recovery — Sometimes difficult to identify, recovery is characterized by an increased interest in the real estate market while evidence of activity may be absent. New construction may be sluggish, rental vacancies may be high, and homes sales may be low. However, there may be population growth, more home showings, and a slowdown of decline.
The Cycle is Affected by Macro and Micro Factors
It’s impossible to pinpoint or explain all of the factors that impact the real estate cycle. They are many and varied. If you ask people what they think drives the real estate market, you will get a thousand different answers! They do, however, break down into two primary categories that are valuable to understand. Real estate, like all other commodities, are ultimately driven by the tides of macro and microeconomics.
Macroeconomics are the sweeping, broad issues that impact markets nationwide. When we think of the housing bubble and how it impacted just about every market, or how national legislation can impact every market, this is macroeconomics at work.
But microeconomics, for real estate investors, is often where our attention often lies in the day-to-day. These are the local factors that impact a market cycle. For example, the way a local government legislates and works to attract businesses and create job opportunities impacts population flux, and, in turn, real estate demand. Or a particular region can attract different demographics, such as university students or retirees.
Understanding that these, among other factors, are all at work in a market and all add up to move the cycle, helps add context and complexity that stop it all from seeming like random chance. You will begin to see things coming before they happen.
Diversification & Buy-and-Hold Strategies Reduce Cyclical Issues
Investors, on the whole, tend to panic when things don’t go as planned or in the way that they think they ought to be going. We see this most readily when there is a downturn in the stock market. Rather than hold on to their stocks, many investors jump ship and create a crash.
While the market cycles that all of us encounter can cause issues, we can all mitigate them with our strategies and by understanding our individual markets better. For turnkey real estate investors, building a stronger, more diversified portfolio is one of the best ways to mitigate the issues of market cycles.
For example, if you only have a handful of properties in one market, suffering through a recession could put a lot of strain on you and your finances. A diverse portfolio, however, with properties spanning multiple markets each at different stages of the market cycle would balance out and be able to cope with any strain a few properties may be under.
In the same way, having a buy-and-hold strategy helps you gain perspective. Because you know you are in it for the long haul, you aren’t as concerned with the temporary circumstances of the market. You understand that it will all come back around eventually: and that takes a lot of stress off of your shoulders as an investor.
At the end of the day, successful real estate investors make their markets work for them...regardless of the market cycle.
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