Real Estate Markets Introduction Econom ic D eterm inantsofN ew Construction Econom ic A nalysis 1. W hatisa RealEstate M arket? 2. Static Equilibrium 3. Property and CapitalM arketLinkages 4. Dynam ic A djustm ent: RealEstate Cycles A Tale ofTw o Cities: Dallasand Philadelphia 1. The Past 2. The Present 3. The Future
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Real Estate Markets Introduction. Real Estate Markets: Economic Determinants of New Construction.
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Real Estate MarketsIntroduction
Economic Determinants of New Construction
Economic Analysis1. What is a Real Estate Market?2. Static Equilibrium3. Property and Capital Market Linkages4. Dynamic Adjustment: Real Estate Cycles
A Tale of Two Cities: Dallas and Philadelphia1. The Past2. The Present3. The Future
Real Estate Markets:Economic Determinants of New Construction
Determinants of the Market Demand for Real Estate
1.
2.
3.
4.
How would you rank them?
Real Estate Markets:Economic Determinants of New Construction
Source of Real Estate Supply
1.
2.
3.
Real Estate Markets Economic Analysis
Real Estate: land and its attached improvements--a capital good thatproduces a flow of services over time.
Real estate prices:
1. Rental rate: the service price--the price per unit of servicesfor a specified time period--determined in the marketfor real estate space, the property market.
2. Market value: the asset price--the present value of the service flowover the asset’s economic life--determined in capitalmarkets.
Real estate market (or submarket): the geographic area where the per unitprice of real estate services is constant; the area includes allproperty influenced by the same economic conditions.
Real Estate Markets Economic Analysis
Characteristics of Real Estate Markets
Durable capital that depreciates over time1. long economic life2. essentially immobile
The real estate market is composed of:1. the market for space—the property market2. the market for (debt and equity) capital
Property market characteristics1. information costly to obtain2. illiquid asset with infrequent trading
Real Estate Markets Economic Analysis
Rental
Rate
Quantity
D
Dynamic Adjustment and Real Estate Cycles
S
D'
P1
excessdemand
Real Estate MarketsEconomic Analysis
Rental
Rate
Quantity
D
Dynamic Adjustment and Real Estate Cycles
S
D'
P
P2
excessdemand
3
Real Estate MarketsEconomic Analysis
Rental
Rate
Quantity
D
Dynamic Adjustment and Real Estate Cycles
S
D'
P3
Real Estate MarketsEconomic Analysis
Property and Asset Market Linkages
Property Market: the (consumers) market for space
Asset Market: the (investors) capital market
Property and Asset Market Linkages:
(1) rents are capitalized into property values
(2) level of new construction influences rents(a) overbuilding creates excess supply, lowering rents(b) new construction incorporates latest technology/
consumer preferences and commands premium rents
Real Estate MarketsEconomic Analysis
Property and Asset Market Linkages
When does new construction occur?
New construction can only occur when the market rent for new space canjustify the construction cost--when the market value of the new propertyexceeds total construction costs.
Rents are determined in property markets.
Values are determined in capital markets.
Real Estate MarketsEconomic Analysis
stock
(sq.ft.)
construction
NOI
marketvalue
Property Market:Asset Market:
Asset Market: Property Market:
RentsValuation
New Construction Stock Adjustment
D
S
V = NOIR
V = f(C)
S = D
Real Estate MarketsEconomic Analysis
stock
(sq.ft.)
construction
NOI
marketvalue
Property Market:Asset Market:
Asset Market: Property Market:
RentsValuation
New Construction Stock Adjustment
D
S
V = NOIR
V = f(C)
D'
Real Estate MarketsEconomic Analysis
stock
(sq.ft.)
construction
NOI
marketvalue
Property Market:Asset Market:
Asset Market: Property Market:
RentsValuation
New Construction Stock Adjustment
D
V = NOI
R
V = f(C)
Cap rate fall S
S'
Real Estate MarketsReal Estate Cycles
What is Cyclical?
1.
2.
3.
4.
5.
Real Estate MarketsReal Estate Cycles
Dynamic Adjustment and Real Estate Cycles
Multifamily Construction: 1978--1996 (Annual Starts in 000)
'78 '80 '85 '90 '96
100
200
300
400
500
Real Estate MarketsReal Estate Cycles
Market Cycle Analysis
1. Phase I: Market Oversupply
2. Phase II: Demand Growth
3. Phase III: Supply Growth > Demand Growth
4. Phase IV: Real Estate Recession
5. Back to Phase I
Long-term vacancy rate is defined as the vacancyrate where changes in rent equal the inflation rate.
LT Vacancy Average
Market CycleCharacteristics
Supply/DemandInflection Point
(Equilibrium)
Vacancy at long-term average
Cost Feasible New Construction
Phase I - Recovery
Phase II - Expansion Phase III -Hypersupply
Phase IV - Recession
-Demand growth continues -New construction begins (Parallel Expectations)
-Supply growth higher than demand growth pushing vacancies up
-Low or negative demand growth -Construction starts slow but completions push vacancies higher
-New demand not confirmed in marketplace (Mixed Expectations)
-New demandconfirmedExcess space absorbed(Parallel Expectations)
-Space difficult to find -Rents rise rapidly toward new construction levels
Real Estate Markets Dallas and Philadelphia: The Future
Wharton Econometric Forecasting Associates
WEFA operates throughout NorthAmerica and Europe, with affiliates inLatin America and Asia. Its broad range of capabilities derives from the1987 merger of two international consulting firms, Wharton EconometricForecasting Associates (WEFA) and Chase Econometrics.
Founded in 1963 by Lawrence R. Klein, the Nobel laureate, WEFApioneered and, over the years, perfected the most innovative ways offorecasting economic and industry trends. Today, WEFA is the largestprivately held repository of economic data and intelligence in the world.
Source: http://www.wefa.com/
Real Estate Markets Dallas and Philadelphia: The Future
RFA provides analysis of the U.S. economy to institutional, corporate, andgovernment clients in the U.S., Canada, and Europe. Our economic researchhas many dimensions: the macroeconomy; financial markets; industrialmarkets; and regional markets, including states, metropolitan areas, andcounties. RFA's services include publications, historical and forecastdatabases, and contract consulting.
The Dismal Scientist® (www.dismal.com), the Web's most popular site foreconomics. Since its founding in 1990, Dismal Sciences has become thefastest-growing economic research organization in the U.S. Headquarteredoutside of Philadelphia in Pennsylvania's Brandywine Valley, DismalSciences is an employee-owned company.
Source: http://www.rfa.com/
Real Estate Markets Dallas and Philadelphia: The Future
WEFA Non-farm Employment (Projections) New Office Employment