We
are bombarded daily with sound bytes about cycles. Today we have the “economic
cycle,” “business cycle,” “recovery cycle,” “stock market cycle” and recently
the “climate cycle.” We have “natural cycles,” “energy cycles,” “commodities cycles”
and “currencies cycles.” Cycles can be short-, intermediate- or long-term, as
well as seasonal. Wall Street analysts, governmental agencies and talking heads
assign the term “cycle” to all that can’t be quantifiably explained or that
which needs a catchy phrase to be explained. We have “vicious cycles” and
“theoretical cycles.” We have notable business consulting gurus who use phrases
such as “cycle time” or the “customer cycle.” Very sophisticated computer
models at many universities and colleges seek to “quantify” business cycle
theory (with the hope of a prediction), and one can blog and/or communicate
with others 24/7 regarding economic cycles.
The
issue with the term “cycle” is that it mandates an acknowledged beginning and
an end, thus creating the endless challenging dilemma of knowing when to “get
out” or when to “get in.” A cycle is generally defined as “an interval of time
during which characteristics, or often regularly repeated events or a sequence
of events occur.” However, regardless of what cycle you are in, no two cycles
have the same start or finish date, and no two cycles have precisely similar
characteristics. Cycles are both business and human multi-dimensional mosaics
of varying duration. Predicting a precise date or time for a cycle to begin or
end is next to impossible. With cycles, there is only one certainty—they exist,
and they ultimately will have a significant impact on success or failure. The
key is to not try to control but to take advantage of the cycles.
Whatever
the “natural” life cycle of business or economic cycles might be, on occasion
they have been interrupted by government intervention as policy makers seek to
lessen, correct, enhance, extend or reduce the impact or eventual outcome of
cycles. Unfortunately this intervention (regardless whether political or well intentioned)
inevitably results in a deferral of a cycle’s natural course or the creation of
a new economic bubble that inevitably creates its own set of consequences. This
further highlights the fact that cycle theory is often the historic offspring
of technical analysis and modeling, based not on “natural” cycles, but
emanating from monetary and fiscal policy decisions.
Real
Estate Cycle
Real
estate cycles tend to follow a fairly consistent 10-year pattern. Obviously it
is not a precise 10-year period—one cannot pick specific beginning or ending
dates; and real estate cycles vary by asset type, market factors and location.
The
length of time within a period is typically uniform. However, the “Plateau” and
“Crisis” periods can be shorter in duration. It appears that, as the real
estate industry nears its peak during the Growth Period, the level of denial,
misguided expectations, blind optimism and “one more day” mindset appears to
creep into the C-suite.
How
many times have we heard, “I know it is probably time to get out, but I just
need to get this deal done,” or “I’m not sure I believe these numbers, but debt
is cheap, and this opportunity is just too good to pass up.” A good time to
exit is probably 6–12 months before or 6 months after the peak of the Plateau
Period. A good time to enter is in the Transition Period. A good time to be
very cautious is near the end of the Growth Period.
Because
real estate cycles tend to work on 10-year cycles, it is important to note that
all asset classes or markets do not begin or end a cycle at the same time. The
impact of global, state and regional economic and government activity does
affect the length and severity of a real estate cycle. For example, the Tax
Reform Act of 1986 eliminated/removed many tax shelter-based investments and
probably contributed to the savings and loan crisis that sent the real estate
industry into a rapid downturn by the late 1980s/early 1990s. The aftermath of
9/11 delayed the economic recovery for 12–18 months. The current financial
stimulus and bailout programs may contribute to a slower recovery of the
non-residential real estate market.
Interestingly
REITs tend to cover two “normal” real estate cycles. REIT real estate cycles
tend to last 18 years with two-year transition periods. This closely parallels
our findings regarding the 10-year “normal” real estate cycle. Most real estate
cycles have begun around the third year of a decade (1973, 1983, 1993, 2003,
2013) and usually end by the eighth year of that same decade (1978, 1988, 1998,
2008, 2018). Between the finish and start of a new cycle, a period of
transition occurs (1989–1992, 1999–2002, 2009–2012, 2018-2022).
While
there are many “fundamental” drivers of real estate cycles, no single factor
determines a real estate cycle. CEL & Associates, Inc. has identified
nearly 50 “cycle drivers;” however, 20 “core” or “fundamental” drivers tend to dominate
a real estate cycle. Since all drivers are not created equal or their weighted
impact the same, they can be divided into the two groupings shown below:
Primary
Drivers:
- · Federal Policy & Priorities
- · Access To/Cost Of Capital
- · Job Growth (Quantity & Type)
- · Commodity Prices
- · Demographic Shifts
- · Consumer Confidence/Spending
- · Labor Force Productivity
- · Supply/Demand Ratios
- · Infrastructure Investments
- · Economic Growth
Secondary
Drivers:
- · International Trade
- · State/Local Regulations
- · Population Migration
- · Small Business Performance
- · Consumer Credit/Savings
- · Business Start-Ups
- · Advancements In Technology
- · Competitor/Industry Factors
- · Household Formation/Characteristics
- · Household Income/Net Worth
The
study of real estate cycles will never be complete. The unexpected and
predictable outcomes of national and global events will impact the start, end
and duration of a cycle. In the years ahead, the continuing study and
understanding of real estate cycles will be important in setting strategic
priorities and direction. However, one fact is very clear, real estate cycles
exist … and are predictable. How will you take advantage in the current and
next real estate cycle?
