The real estate market is global in scope and is estimated to be worth $217 trillion. The fact is that real estate represents a significant proportion of most people’s wealth, and as an investment, real estate is the market that is responsible for producing more millionaires than any other sector. Not only this, it is by far the most reliable asset class that is most effective in wealth preservation and securing stead growth over the long-term. The size and scale of the real estate market along with the fact that property is an actual tangible hard asset, are major factors as to exactly why this sector attracts so many investors.
For us to truly benefit from this huge market in terms of profitability and security, we need to understand the key factors that effect it, so we can make sense of what is currently happening and to be able to accurately forecast what may happen in the times ahead. We can identify four key factors that present the biggest impacts upon real estate markets throughout the world:
Demographics are the socioeconomic characteristics of a population. Such demographics are expressed statistically, such as age, sex, migration patterns, population growth, education level, income level, marital status, occupation, religion, average size of a family and the average age at marriage. These demographic statistics can often be overlooked but the reality is that they are significant factors that affects how real estate is actually valued along with what types of properties are in demand within the market. Major shifts in the demographics of a nation can have huge influential impacts upon real estate trends for several decades.
For instance, the baby boomers who were born between 1945 and 1964 are an example of a demographic trend with the potential to significantly influence the real estate market. The transition of these baby boomers to retirement is one of the more interesting generational trends in the last century, and the retirement of these baby boomers, which began back in 2010, is bound to be noticed in the market for decades to come. It is inevitable that the social and economic habits of such a proportion of any population is bound to have an influence upon market behavioral patterns.
There are a number of ways this type of demographic shift can affect the real estate market. From an investors viewpoint, some obvious key questions to ask might be:
A) How could this impact upon the demand for second homes in popular vacation areas as more people start to retire?
B) How could this impact upon the demand for larger homes if incomes are smaller and the children have all moved out? These and other questions can help investors to narrow down the type and location of potentially desirable real estate investments long before the trend has started.
2) Interest Rates
Interest rates also have a major impact on real estate markets. The lower interests rates are, the lower the cost to purchase a property will be. This in turn makes buying a more attractive option which creates a higher demand for properties within the real estate market. In periods of low interest rates, the increase in demand leads to a rise in new properties being built as development companies are able to borrow money at a cheaper rate to finance the construction that is needed to satisfy the increase in demand. On the contrary, if interest rates are high then the cost of borrowing becomes more expensive. This in turn reduces the demand for purchasing properties. Subsequently, interest rates can greatly influence a person’s ability to purchase a residential property.
3) The Economy
Naturally, the overall health of the economy is another key factor that affects the value of real estate. The health of the economy is generally measured by economic indicators such as the GDP, interest rates, employment data, currency exchange rates, manufacturing activity, income and wages, the prices of goods, stock markets – there are a host of economic indicators that comprise the make-up of the health of the economy. Broadly speaking, when the economy is sluggish or experiencing a downturn, so too is real estate.
However, the cyclical nature of the economy can also have varying effects on different types of real estate. For example, if a Real Estate Investment Trust (REIT) has a larger percentage of its investments in hotels, they would typically be more affected by an economic downturn than an REIT that had invested in office buildings. Hotels are a form of property that is very sensitive to economic activity due to the type of lease structure inherent in the business. Renting a hotel room can be thought of as a form of short-term lease that can be easily avoided by hotel customers should the economy be doing poorly. On the other hand, office tenants generally have longer-term leases that can’t be changed in the middle of an economic downturn. Therefore, although you should be aware of the part of the cycle the economy is in, you should also be understanding and aware that different forms of real estate possess sensitivities to different conditions of the economic cycle.
4) Government Policies/Subsidies
Government-led legislation is also another factor that can significantly impact upon the demand and value of real estate. Initiatives such as tax credits, deductions and subsidies are a few of the ways that government can temporarily boost demand for real estate for as long as they are in place. Being aware of current government incentives can help you determine changes in supply and demand and identify potentially false trends. For example, in 2009, the U.S. government introduced a first-time homebuyer’s tax credit to homeowners in an attempt to jump-start home sales in a sluggish economy (only those who purchased homes between 2008-2010 were eligible). According to the National Association of Realtors (NAR), this tax incentive alone led to 900,000 homebuyers being encouraged to purchase residential homes. This was quite a sizable increase, although temporary, and without knowing the increase was a result of the tax incentive, you may have ended up concluding that the demand for housing was going up based on other factors.