All markets face ups & downs, booms 👍 & busts 👎. What if you knew exactly WHEN, WHY & HOW to make money come what may? Freaking amazing, right? Well the rich know, why not you 🤑?!
There's no certainty surrounding any investment and the word "foolproof" should never enter your prospective investor’s mind. However, when you act from a place of “knowing” you’re less likely to make the mistakes of those who “are just wandering in the dark”. Just like when you play that new virtual game with your niece, she knows what’s coming and you are just a sitting duck waiting to be slayed 😂.
The first step is to realize that, by design, there is a great steadiness, timeliness and certain repetition in how the markets behave and how to make money anyway.
The Market Cycle
Economic, business or market cycles are the cyclical expansion (strong economy) and contraction (weak economy) that we see about once every decade and is typically dismissed as basic economic fluctuations. A simplified representation of this continuous upward cyclical fluctuation is shown below.
The Real Estate Market Cycle
The Real Estate Market Cycle closely follows the same pattern and fluctuation. The complete real estate market cycle seems to have an average duration of about 18 years (source: 1933 real estate market researcher Homer Hoyt).
There are two main concepts to watch when trying to understand the market: the different “Stages” in the cycle and the “Indicators” that tell you where you are.
Successful investors understand to be prepared to take advantage of the opportunities that come their way during an upswing, a downswing or an inflection point (tipping point). It doesn’t matter if you’re just a rookie or a seasoned investor, there are ways – strategies - to make money during every stage of the real estate cycle. But first you have to understand the real estate market cycle, it's stages and it's global & local indicators.
The Stages
Sometimes the real estate market will react a little more quickly or slowly than the general economy. But when the economy is strong, so is real estate; when the economy is weak, so is real estate. The cycle spends several years (averages around 59 months / 4,5 years) trending up through a period of economic expansion (Stage 1). It then plateaus during a peak phase (Stage 2), which generally lasts for a few months up to a year. It declines during a period of recession and economic contraction (Stage 3) (averages around 1,5 years). Finally, the market starts to recover (Stage 4), as the recession comes to an end and begins again its upward swing.
The second step to see is that the phases aren’t equal in length the upswings (expansion and recovery) are often longer than the downswings (recession).
The Expansion Stage
The buyer demand for housing increases, as other economic factors such as wage and job growth, are strong. Occupancy rates increase and vacancies decrease. Housing inventory drops, new construction begins to meet the increasing demand. Because demand is outpacing supply, prices increase, and they often increase faster than the rate of inflation. Deals become scarce, and it’s not unusual for investors to overpay for property during this phase of the cycle.
The Peak Stage or Hyper Supply
Housing prices hit a plateau and demand starts to slow down with higher days-on-market for residential property and fewer new listings and buyers. New construction keeps booming because the units coming to market were in the works for months or years. But the strong economy has been driving inflation, and the government steps in and raises interest rates to help combat inflation so we start to see real estate prices decline, and the downturn begins.
The recession stage
During the recession, there is high unemployment, reduced wages, and tightening of credit. For investors, this means an increase in the number of foreclosures, higher vacancies, fewer home-buyers, and reduced prices, and reduced property values, reduced market rents. New construction quickly stops, and many partially finished projects go unfinished.
The recovery stage
During this phase, the government lowers interest rates in an attempt to spur economic growth. Once the recovery gains momentum, inventory declines, and many distressed properties get picked by investors. Buyer demands increases and prices start to rise. New construction hasn’t yet picked up, as financing is still tight but builders start to come out of the slumber, begin to line up credit and financing and look to build their portfolio of land for future development.
The Indicators: How To Know Where You Are!
There are two types of data indicators that can help us:
Leading indicators; shift before you see major changes in a specific market or the general economy.
Trailing indicators are the results of shifts in a market or economy. Unlike leading indicators that warn you to adjust your strategy, trailing shows up after a change has already occurred.
The overall economy can be “watched” by a few indicators such as wage growth, Gross Domestic Product (GDP =measures the value of economic activity within a country), and unemployment. These indicators also impact the ability of consumers and developers to buy and sell real estate.
When the economy is strong, interest rates are low (<5%), unemployment is low (3-4%; <3%= turning point), incomes are rising, people can afford big purchases such as a home, so developers are able to build and sell new constructions. When the economy is weak, interest rates are high, wages flat, inflation is high (>3%), unemployment is high and the opposite happens.
There are many ways to gather the information to “sense” where we are in the market cycle:
Monitor Closely monitor what you see happening in the market in general. Real Estate prices going up or down? What is the time to market for sales (higher or lower than 3 months)? Government announcing interest rates changes? Banks lowering or increasing rates for loans? You know it’s spring when birds start to sing!
Timing Time the market. How long has the economy been rising? When was the last recession? Every 10 years a complete cycle is due. So if the last recession was in 2007 we are long overdue for a recession in 2019! It’s not about knowing exactly when the first snow will fall, but to be prepared for when winter is coming.
Global Indicators The best way obviously is to actually follow the hard data itself and continuously monitor specific global and local market indicators.
Global Indicators
1.Yield Curve
The yield curve represents the change in interest rates for government bonds of different expiration dates.
In a healthy economy, theirs is a great difference in the return of short-term bonds versus the return of long-term bonds. The yield curve starts low to the left and ends high to the right. The government controls the returns on these bonds.
The amount of demand from investors also plays a part in bond yields—the more demand there is for a specific bond, the lower the price goes; the lower the demand for a specific bond, the higher the price goes.
As investors get more and more concerned about the economy, short-term bond yields increase and long-term bond yields drop—the curve flattens.
It turns out that the yield curve is one of the best predictors of a top inflection point in the economic curve. Right before a recession, typically 6 to 18 month prior, we will see the yield curve go from flat to inverted - with the left and right ends of the curve higher than the middle (just like in 2007).
So if the yield is "smiling" 🙂 at you, get out! Sell for maximum profits, cash out and wait for the big sale during the recession.
Live📍 Chart of The US Treasury Yield Curve
What Is The Current Yield Curve - "Telling Us" ?
This is why the biggest wealth accumulation happens during a recession. The wealthy know when to get out-cash out, keep their money and vulture during the recession 💰.
2. Unemployment
Unemployment statistics measure the percentage of people in the country who are working versus out of work.
In a healthy economy, unemployment sits in the range of 4 to 5%. When unemployment goes above this point, it’s a signal of a weakening economy. A recession will show unemployment well above 9 -10%. Just like an increasing unemployment rate is a cause for concern, so is a very low unemployment rate. When the unemployment rate gets <= 4% we have full employment a precursor for inflation, which will be a stab on the economy. Full employment has historically been a signal that a downturn, or full-fledged recession, is right around the corner.
3. The Stock Market
If the stock market is performing well, it’s likely the economy is too. If the stock market has been steadily climbing for a long period of time, it’s probably an indication that we’re either near the end of an expansion phase or in the peak phase. So a down-turn is evidently coming. On the flip side, if the stock market’s been declining for an extended period of time, that’s a sign we’re in a recession. The length of the decline may help you identify how close we are to entering the recovery phase. Instead of monitoring the whole stock market we can easily monitor and follow the legend of stock markets.
The Buffet Indicator
Warren Buffet says determine where the correct stock market price should be today (GDP), we can see if the market is higher than that and likely to drop or lower than that and likely to rise.
The Buffett Indicator suggests that the total value of the stock market is directly related to the nation’s Gross Domestic Product (GDP). We should be able to compare the value of the stock market to the GDP to determine whether the equities market (the stock market) is correctly valued, undervalued, or overvalued. The general consensus is that if the ratio of these two values is between 75% and 100%, the stock market is fairly valued. Under 75% and the market is undervalued. Over 100% and the market is overvalued.
4. The Gross Domestic Product (GDP)
GDP is the total value of economic activity within a country and is an indicator of overall economic health. When GDP is increasing, the economy is growing. When GDP is decreasing, the economy is contracting.
The ideal growth rate for the GDP is 3% to 4%. Growth that exceeds this rate is often a sign of above-average inflation, and the government may decide to increase interest rates to slow that inflation. Increasing interest rates will put brakes on a growing economy and lead to reduced GDP or negative GDP. If the GDP is negative for two or more quarters in a row, the economy is considered to be in a recession.
5. Interest rates
Low interest rates make it easier for consumers and investors to borrow money. Rates are low during the recovery and expansion stages of the cycle as the government tries to fuel economic growth. When the economy grows too quickly, the government responds by raising interest rates to keep inflation in check.
Increasing interest rates means borrowing becomes more expensive and a larger percentage of income is being used to pay interest on credit cards, mortgages, and other types of loans. The increased borrowing and interest costs to consumers and businesses can put a brake on economic growth. High-interest rates makes the economy slow down, into a recession.
6. Wages
When the economy is strong and businesses are growing, businesses often pass share profits with employees by increasing wages. When the economy slows down, profits typically decrease, and wages either stagnate or decrease. Companies will then start to lay off workers, unemployment increases, consumers can’t pay their bills, and the economy starts spiraling downwards.
Wage growth is an indicator of whether employees and consumers will be spending money, driving the economy or saving because their paychecks are growing at a slower rate than inflation.
7. Housing Prices
If housing prices across the country are declining, it’s an indication that the overall economy is in downturn. Likewise, if housing prices are increasing, it’s a sign the economy is strengthening and we’re either in the Recovery or Expansion Stage.
Every cycle and stage has its unique conditions and circumstances. But if you’re prepared for the phase changes, and if you understand the basic concepts around investing during each of the phases, you and your business can thrive, regardless of what the economy throws at you.
In closing
All in all, let’s admit it instantly & openly 😏, it is very challenging ahead of time to exactly pinpoint when the next downturn will be, how deep or how long-lasting it will be. But it’s never too soon to start thinking about how to position your real estate company not just to survive, but to thrive, in all phases of the cycle.
Okay. So how do you “know”? What is absolutely essential, is to analyze and interpret signs that indicate the probability of a change in stages and take actions in advance to mitigate risk and protect the company from bad things happening to it in the downturn, and position the company to take advantage of opportunities that will inevitably be available in the downturn.
Get a strong indication in advance by using, your own customized "playsheet" for tracking the market:
Truly strategically oriented real estate companies have both processes to monitor their markets and a set of actions or “cycle strategies” thought through in advance to help them identify and navigate changing market conditions.
Real Estate markets are primarily local markets. National trends or indicators are great to follow, to have a "sense" of the market, as a leading indicator before the shift in the market happens. However local markets may not behave the same way the national trends suggest, they might be lagging or even be trending before the national markets do. Often times there are some other local trailing indicators (showing up after an event already happened) specific to that local market.
Besides following the global indicators of the market, it thus makes great common sense to also look for "signs" in your local market indicators to align for what is happening locally.
The most important step after clearly positioning the market, actually the only reason why you would closely watch the market, is to work the right strategy to make money in that current market flow instead of going against the grain. It would be a terrible mistake to buy at an all-time high, right before a tipping point expecting the market to continue to rise while you are in for a downswing or full-fledged recession. That is how big money is lost! Avoid the mistakes of the "unknowing wanderers" by using the right real estate strategies at the right time for maximum profitability and continuity!
No matter if they throw a Bull (up) or a Bear (down) Market at you, you are now prepared to "sense" & read the market and most importantly you now "know" how to make money in any market 🤗💰!
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Psssssttt.... Download The Free Market Cycle Cheat Sheet
