We have seen the financial cycle in the post of the credit cycle. Similarly, Real Estate also follows the same cycle as all the financial cycles follow, except one that real estate having a higher lead time to development takes place. Generally, real estate projects take a huge time to get constructed to get commercializes.
When the economy is bad at that time credit will be unavailable for the construction work and when time is a good credit will available easily. This impact on the real estate cycle. Better economic time causes an increase in demand and bad economic conditions led to a fall in the demand. Due to the higher lead time, supply & demand mismatch takes place which causes the rise in the rent and the sale price.
When projects got halted due to the credit unavailability then these situations invite a bust in the Segment. That will cause a fall in the price of buildings. Investors can get land less than what developers have invested in. Also, here, lead time reduces as approval got finalised in good time. It hurts to the projects of which construction started in the boom period.
When there is a demand for home and financing options available, builders decide to build a home and all builders decide the same which creates a surplus of home. Also, due to long lead time, demand gets soften then builders left out with the inventories which he has to sell at lower than the expected value. But the reverse of it, when the economy is slow, availability of finance is low and pile-ups of unsold inventories so that builders stop building a new home. This helps to slowly getting sold out of inventories. Now, when the economy revives again, at that time supply will be lower than the demand which brings prices to the upper level. So that building a home during the slowdown is a better way to reap profits.
People tending that real estate investment beat the inflation (same for common stocks) but we need to understand that if the price which we pay are too high then it will not beat inflation and in result, it will beat us.
If we have bought real estate during a high price growth then we have to wait a little more while price growth has been slowing and many of the area it has been degrowth. So that not all price purchased of real estate result into the wealth creation.
Disclosure – Companies mentioned in the article are just for an example & educational purpose. It is not a buy/sell/ hold recommendation.
Read for more detail: Mastering The Market Cycle: Getting the odds on your side by Mr.Howard Marks
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