Real Estate Principles, 11th Edition By Charles F. Floyd and Marcus T. Allen

Understanding Real Estate Market Dynamics Chapter 13 Understanding Real Estate Market Dynamics

Owner-Occupied Residential Real Estate Markets Basic supply/demand equilibrium model Supply – amount or quantity of the good or service that will be offered at various prices Demand – amount or quantity of the good or service that will be desired at various prices Equilibrium – the price/quantity combination at which quantity demanded equals quantity supplied

Demonstrating Market Dynamics Figures: 13.1 Supply/Demand Equilibrium 13.2 Demand Changes Price 13.3 Supply Changes Price 13.4 Simultaneous Supply and Demand Changes Example from Fort Lauderdale, Florida

Price Movements in Real Estate Space Markets The demand curve in real estate markets is downward-sloping. The supply curve in most real estate markets is vertical at the current quantity of space and horizontal or rising at higher quantities. In a market with a horizontal supply curve, therefore, demand increases will not result in long-term price increases. Demand decreases, however, may lead to dramatic price decreases.

Commercial Real Estate Space Markets Transactions for the rights to use land and buildings People, firms, and other entities are willing to pay various prices for the use of space for consumption or production purposes (demand) Owners of space are willing to sell the rights to use such space to the users for various prices (supply)

Office Space Markets Class A highest rent per square foot Class B very desirable but lack attributes necessary to charge top dollar Class C physically acceptable but not many amenities Class D few amenities and poor location

Retail Space Markets Freestanding retail Neighborhood center Community center Regional center Superregional center

Industrial Space Markets Warehouse Manufacturing/Production Materials processing

Agricultural Space Markets Annual (seasonal) cropland Perennial cropland Livestock grazing

Lodging Space Market Highway motels Convention/business hotels Luxury hotels Resort (destination) hotels Extended stay hotels/motels

Residential Space Market Single-family detached homes Single-family attached homes Manufactured homes Multifamily apartments See Close-Up “The Electronic Revolution’s Impact on the Value of Location”

Real Estate Asset Market Transactions involving cash-flow rights to real estate See Figure 13.5 Major Types of Capital Asset Markets and Investment Products

The Larger Market The real estate asset market is part of a larger market: Publicly traded equity assets (stocks, mutual funds, real estate investment trusts) Privately traded equity assets (real property, private companies, oil and gas partnerships) Publicly traded debt assets (bonds, mortgage-backed securities, money instruments) Privately traded debt assets (bank loans, whole mortgages, venture debt)

Price Determinants in the Real Estate Assets Market Opportunity of cost capital Growth expectations Risk

Tying Together Space & Assets Markets See Figure 13.6 The Real Estate System Prevailing economic conditions influence both capital and space markets Landlords and tenants negotiate rents, which produce cash flows to the real estate asset market

Tying Together Space & Assets Markets, cont. Property owners/investors in the asset market determine the present value of the cash flows (that is, the value of the property). If property values are greater than or equal to cost of production (which includes reasonable profit for the developer), developers build new space.

Commercial Real Estate Market Analysis Examination of the supply and demand sides of a real estate space market and the balance (equilibrium) between them Inputs to market analysis Vacancy rate – higher vacancy rate indicates less demand relative to supply and vice versa Rent or price level – trends in rents and prices indicate changes in the balance between supply and demand

Commercial Real Estate Market Analysis, cont. Inputs to market analysis, cont. Quantity of new construction started – indicates new supply that will be coming into the market Quantity of new construction completed – indicates new supply that is just arriving into the market Absorption of new space – indicates the rate at which new supply is becoming occupied in the market

Using Market Analysis to Look Forward “Months Supply” Months supply = (vacant space + space in construction)/net absorption per month If months supply is much greater than construction time for new projects, then the new project will likely hit the market at a time when supply exceeds demand If months supply is equal to or less than construction time for new projects, then a new project will likely be well-received by the market.

Professional Market Analysis Reports Office Lodging Industrial Apartments Owner-occupied residential