Over the last several columns, we have been discussing investing in pre-development land and a special real estate acquisition matrix I developed. In the next couple of columns, we want to shift our focus to understand economics cycles that affect real estate, and in later columns how to predict when they will occur and what will happen next.
As referenced in a previous column, time is the biggest factor in the real estate investment-yield equation. The longer you have to hold something the more it has to sell for just to keep the yield the same. If you can buy at the end of a recession and sell into a booming market, obviously that would be much better than buying at the top of the market, only to watch a recession occur and values plummet.
For this reason, I am a strict contrarian when it comes to my real estate investment philosophy. That means buying at the end of a down cycle when everyone is selling and almost no one is buyer, and selling into an up cycle when everyone is buying. While this makes sense, being a contrarian investor is hard. This is because you are going against the natural flow of what everyone else is doing. Therefore, it becomes imperative, if you are truly going to be a contrarian investor, to learn how to read economic cycles.
I am from Dallas, Texas, and we have the same types of economic cycles as everywhere else. However, for some reason Dallas seems to rise higher in its booms and fall deeper in its recessions than just about anywhere else in the country. As a result, the market dynamics and relating factors appear to be a little more defined in Dallas than in other markets. This made it the perfect place for me to study real estate economic cycles.
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I am a student of history and like to learn as much as I can from mistakes made, both mine and other peoples’. Back at the end of the 1980s, this mindset led me into an intense research project in an attempt to try and identify common denominators or elements present in the marketplace prior to a market cycle transition. I have always felt that if you had a crystal ball that allowed you to know in advance when a recession was going to occur (or when a boom period was going to begin), you could cut out the biggest risk there is in land investing: marketing timing. Therefore, what I am going to try to explain now and over the next several columns is what causes boom cycles and recessions, and more important, how to more accurately predict when they will occur.
My personal clients know I do not particularly like to make multi-million dollar investments decisions based purely on what a staff writer for a particular newspaper or magazines might think is right. However, it is a fact that what is written does have a major effect on others investors’ perceptions and subsequent actions.
As a result, I am going to try to explore the true effect and relationship between the real economy, the real estate industry, the investor’s attitude and the tenor of the current press. What I hope to demonstrate is that the investors’ perceptions of the real economic cycles are distorted because what the press reports are data that are historical and statistical in nature.
This historical data can only become available after the completion of a prescribed period (quarterly, semiannually or annually). Since these data are historical, and we have to wait for that period to end, it is therefore non-current and already out of date from the true market. As a result, waiting on such data to be reported makes us operate with out-of-date, non-current information.
In reality, there is not one but two cycles running concurrently, but out of sync. These two cycles feed on each other. The first cycle is the economic cycle; the second is the real estate cycle. We will explore these two cycles and there relations to one another in greater depth in my next column.