4 Major Factors That Drives the Real Estate Market
Real estate business as any other business is not immune of the various factors affecting the business environment. In this article, we introduced some of the higher-level factors that play a major role in moving the real estate market whether forward or backwards, but there are also more complex parts that come in to play. And although in practice, the results can be very different but some of these aforementioned factors suggest a clear-cut relationship between the factor and the market and how they interplay.
As an investor or professional, understanding the key factors that drive the real estate market is essential to performing a comprehensive evaluation of a potential investment. This will help you make informed and viable decisions.
Across the world, real estate represents a significant portion of most people’s wealth, and this is especially true even in Nigeria and major parts of Africa. According to the most recent reports, the real estate sector contributes largely to the Nigerian Gross Domestic Products and as 2018, the sector sits as the fifth highest contributor. The size and scale of the real estate market make it an attractive and lucrative sector for many investors. Some of the main factors that affect the real estate market and the variety of investments available include:
Factors That Influence The Real Estate Market
Policy in general is no doubt a driver of an economy across whatever level you can think of. Legislation is a core factor that can have a sizable impact on property demand and prices. Land Ownership Acts, Property Regularizations, etc. are frameworks that detects the tune in the sector. Also, Tax credits, deductions and subsidies are some of the ways the government can temporarily boost demand for real estate for as long as they are in place.
For instance, being aware of 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 is eligible).
According to the National Association of Realtors (NAR), this tax incentive alone led to 900,000 homebuyers to buy 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.
In Nigeria, land and property ownership is encourage by law, and this has seen people lawfully owning large and numerous properties. Things would have been different is the government takes direct ownership of land and/or provides housing.
If real estate can contribute to the GDP, and the GDP being a Key performance indicator of growth in any economy, it is not out of place to state that the economy affects the real estate sector. Another key factor then that affects the value of real estate is the overall health of the economy. This is measured by these economic indicators such as the GDP, manufacturing activity, employment data, population size, the prices of goods or services, etc. It is safe to say, when the economy is sluggish, so is real estate.
For example, for the period Nigeria was stricken with recession, it saw the real estate sector experience poor overall performance. It changed swiftly when the recession reduced.
However, the cyclicality of the economy can have varying effects on the various types of real estate investment. For example, if a Real Estate Investment Trust has a larger percentage of its investments in hotels, they would typically be more affected by an economic downturn than a Real Estate Investment Trust that had invested in office complex.
Since, Hotels properties are 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. As an investor, being aware of the part of the cycle the economy is in, you should also be cognizant of the real estate property’s sensitivity to the economic cycle.
When we say demographics, we mean the data that describes the composition of a population, such as age, race, gender, income, migration patterns and population growth. These are often overlooked statistics but significant factor that affects how real estate is priced and what types of properties are in demand. This is true because a major shift in the demographics of a place can have a sizable impact on real estate trends for several decades.
For example, the people who should be able to afford a home should be 18 years and above, probably. And it is also expected that having the purchasing power would mean you have a gainful employment and you can afford a home. This also streamlines the market.
Adults who are planning their future would probably take a pension plan and maybe get loans to buy property in order to prepare for retirement. This you refer to people who are above 60 years. Above all, the standard of living, employment rate, income level, urbanization and migration, education level, all play significant roles when you talk about demographics.
There are numerous ways this type of demographic shift can affect the real estate market, but for an investor, some key questions to ask might be:
i) How would this affect the demand base on the population density?
ii) How would this affect the demand for homes if incomes are smaller?
iii) What is the history of these people? These and other questions can help investors narrow down the type and location of potentially desirable real estate investments long before the trend has started.
Real estate is business. And individual parties push to maximize profit. Interest rates also have a major impact on the real estate markets. If you’re considering buying a home with a mortgage it is beneficial to research interest rates using a mortgage calculator. Changes in interest rates can greatly influence a person’s ability to purchase a residential property. That is because the lower interest rates go, the lower the cost to obtain a mortgage to buy a home will be, which creates a higher demand for real estate, which again pushes prices up.
As interest rates rise, the cost to obtain a mortgage increases too, thus lowering demand and prices of real estate. However, looking at the impact of interest rates on an equity investment like a Real Estate Investment Trusts, rather than on residential real estate, the relationship can be thought of as similar to a bond’s relationship with interest rates.
When interest rates decline, the value of a bond goes up immediately because its coupon rate becomes more desirable, and when interest rates increase, the value of bonds decreases. Similarly, when the interest rate decreases in the market, Real Estate Investment Trusts’ high yields become more attractive and their value goes up. When interest rates increase, the yield on an REIT becomes less attractive and it pushes their value down.
What Would Your Best Investment Be?
The size and scale of the real estate market make it an attractive and lucrative market for many investors. As an Investor, you can invest directly in physical real estate or choose to invest indirectly through managed funds. To invest directly in real estate means purchasing the residential or commercial property to use as an income-producing property or for resale at a future time of your choice.
To invest indirectly, you can choose one of the ways such as investing in real estate investment trusts (REITs), real estate exchange traded funds (ETFs), commingled real estate funds (CREFs) and infrastructure funds. Due to the higher liquidity available in the market, the lower transaction costs and lower capital requirements, average investors prefer to indirectly invest in real estate.