A simple way to view property cycles is to compare the market to traffic lights. When you see green, you go. When you see amber, you go but proceed with caution and when you see red, you stop. The key here is to understand whether you are in a property market which is green, amber, or red, which can be explained with some examples below:
- A green light in the commercial property market can be spotted where employment growth is high due to corporate expansions, leading to job creation and low employment. Demand for property will outweigh the current supply, resulting in lower vacancy rates, increased rents and visibly more construction activity in the area.
- In commercial property, amber lights are signalled by a slight increase in interest rates, making borrowing more expensive and leading property developers and investors to be more cautious when acquiring commercial property or development sites. Local and national news may appear slightly pessimistic, reporting on lower business confidence and job losses, which will result in a decrease in vacancy rates for commercial properties.
- Red lights in the property cycle are often revealed when new build construction projects begin to halt. This can be due to overbuilding and over-supply within a specific area. An increase in company liquidations and a decrease in property values is also a clear indication of a red light within the property cycle.
Owners and buyers of commercial property can make significant sums of money during property cycles if entry and exit points are timed correctly. However, the difficulty is in timing the property cycles correctly, which can be extremely risky. Therefore, it is important to conduct thorough market research and risk analysis when entering and exiting the market. An overview of the commercial property phases of a cycle are as follows:
- Expansion Phase – During this phase of the commercial property cycle, relocations increase, personal incomes rise, unemployment levels are low, vacancy levels are low and rents are increasing. An increase in the number of approved construction projects also get the go ahead from local planning authorities and the mood within the property sector is one of excitement.
- Peak Phase – Commercial property owners should consider selling their property during this phase in order to maximise their profit. This is otherwise known as a ‘sellers market’, where property buyers and investors will often outbid each other in order to secure deals, and properties are listed on the market for short periods of time before they are sold.
- Contraction Phase – During this phase of the commercial property cycle, the market may become saturated with new projects, which is a result of overbuilding. Inflation will likely increase, along with interest rates and vacancy rates, however property prices will begin to fall. During this phase, bankruptcy and redundancies begin to increase and more properties go into receivership.
- Recession Phase – Commercial property during this phase becomes more difficult to sell, with properties remaining on the market for significantly long periods of time. Commercial property values continue to decrease, borrowing interest rates are normally high, and rents tend to decrease where landlords compete for tenants. Property receivership during this phase is high and the emotional sentiment is one of ‘panic’.
- Bottoming Out Phase – This is often a good time for property developers and investors to buy, however it is also the most challenging phase. Business confidence is low and banks view the commercial property sector as risky, making it difficult for property buyers to obtain financing. This is due to a naturally lower demand for commercial property where unemployment is high.
- Recovery phase – During the recovery phase of the commercial property market, the economy begins to show signs of improvement whereby vacancy rates decrease, rent levels stabilise and begin to increase and property development speculation begins to start again, with banks and lenders making funds available for commercial property investments and developments.
Understanding commercial property market phases can help sellers, developers and investors prepare to become better equipped to strategically plan entry and exit strategies into the commercial and property development markets. This leads to two main questions:
- When should you buy? – Deciding on when to purchase commercial property or undertake a development can often be a personal or corporate choice, so a true answer should be considered on its individual merits. However, in the contexts of market timing, commercial property investors and developers should aim to buy during the middle or bottom end of the expansion cycle in order to buy into a trend that is stabilising but still has significant upside potential.
- When should you sell? – As well as market indicators, there are also personal and corporate considerations to consider, such as freeing up cash, downsizing, corporate restructuring and many other reasons. Again, in the context of commercial property cycles, the answer is to sell at the peak phase, although it can often be difficult to know when the top of the peak phase is. Market timing could be decided by watching rents and vacancy rates separately, where rents that level off and become flat for three straight months is an indication of the top. After vacancy rates have reached a three to five year low, this is also an indication that the commercial property market is at the top end of the peak phase.
Haydon Construction work with property developers and investors to ensure that construction project is delivered safely, on time and within budget. To find out more about how we can help deliver your construction project, please feel free to contact us today.