The real estate market has always been one of the most lucrative investments in the world. It has been through massive crises like the US Real Estate Bubble. Many people have tried to recover for many years after it pushed them to the brink of bankruptcy. Thankfully, many investors have remained drawn to it, hoping its value would appreciate.
The near-zero interest rates in the past four years have allowed many individuals and entrepreneurs to borrow and purchase properties. In 2022, apprehension was all over the country as speculations of another recession spread like wildfire. Inflation skyrocketed to 9.1% while the Fed implemented a series of interest rate hikes.
But today, the real estate market is regaining appeal as macroeconomic indicators become more manageable. Different forms of investments are enticing new cash inflows. Also, a potential Fed rate cut is anticipated in the second half of FY24.
This article will cover the real estate market and explain whether or not now is a good time to invest in it.
Why It’s Safe To Invest in the Real Estate Market
Investing in real estate can provide hefty returns but is highly risky. The market is highly cyclical and very sensitive to macroeconomic changes. We have seen its changes in the past four years as property prices and demand varied with inflation and interest rates. Even so, these are the reasons investing in real estate is a wise choice.
No recession
Recession woes affected consumer behavior in 2022 and 2023. Inflation exceeded 9% for the first time in 40 years. Meanwhile, interest rate hikes were so swift that they overwhelmed the financial capacity of many households. With that, analysts became wary of another recession following the Silicon Valley Bank collapse last year.
Yet, the US economy proved to be durable and resilient. Leading analysts like JP Morgan Chase backed off their recession call. The GDP growth remained positive at 2%-3% in the first half of 2023 and eventually bounced back to 4.9% in the third quarter. This shows sustained recovery after periods of slower economic growth.
Even better, inflation deceleration continued and went faster than expected. There have been several slight upticks, but they remained manageable.
At 3.4% today, inflation has already decreased by 60% from the peak in 2022. It is slightly higher than last month’s 3.1%, but we can attribute it to spending splurges during the holiday season. As consumption normalizes, inflation may become more relaxed in the subsequent months.
In addition, the Fed is eyeing to keep the rate hike paused before cutting it in the second half. If it continues, mortgage rates will follow, making applications for a home loan more attractive.
Demand remains the primary market force
Speculative mania was rampant in the market a few years before the 2007-2009 crisis. There were unethical practices, such as overselling properties at lower rates to attract borrowers and buyers. This became one of the primary drivers of inflation that prompted the Fed to hike rates to 5.25% in 2006, depleting many Americans’ wealth.
The scenario today is far different from the Great Recession. Things are more manageable in the property market. No speculative mania and overselling of properties can be observed today. Demand outweighs inventory, which puts upward pressure on prices.
Property builders have become more conservative
Concerning the property market demand and supply, we can attribute it to the conservative view of property builders over the past decade. Indeed, they have learned the hard way, making them more cautious in recent years. And because their development can’t keep up with the demand, property prices remain high.
At the end of 2022, the US was short 3.2 million housing units. But as of August 2023, the shortages already reached 5.5 million-6.8 million units. The rate hike pause and inflation deceleration could have driven this.
Meanwhile, the median home price is still higher than pre-pandemic levels. It has already decreased to $431,000 in the third quarter of 2023 from its peak of $479,500 in the fourth quarter of 2022 as demand and rates cooled. Yet, the decrease rate remains meager to avoid new shortages.
At this point, the price is already 11% lower than in the previous year. The price may decrease if inflation and interest rates continue to relax. But I don’t think its value will substantially decrease, given the current market situation.
Shortages will keep prices high to enhance market equilibrium. And once the economy recovers, income and purchasing power will catch up. This may crowd the real estate market again and cause prices to rebound.
How To Invest
With the current market scenario, real estate is more enticing. These are some excellent ways to invest in real estate.
REIT
REITs may be the best way to earn in real estate. REITs have been less volatile than stocks, making their value and price dispersion more manageable. American Tower Corporation (AMT) is one of the best REITs in which to invest. Its average annual returns since 2007 have reached 10.22% versus the S&P 500 (SPX) of 7.42%.
The best way to invest in REITs is through their dividends. REITs are well-loved for their generous dividends. On average, their dividend yield today is 3.19%, higher than SPX’s 1.47% and NASDAQ Composite’s (IXIC) 1.51%.
Stocks
Investing in stocks is also a great way to earn from the real estate market. Investing in property builders or construction companies can also be enticing.
D.R. Horton, Inc. (DHI) is on top of my list, given its average annual returns of 9.6% in 16 years compared to SPX. Using the Sharpe Ratio, we can see how it has performed relative to the primary stock index. It is more volatile than SPX, given its standard deviation of 22.98%.
However, the relative value of its returns outweighs the risk. With a Sharpe Ratio of 0.24, DHI has better risk-reward management.
It is also very cheap, given its current PE Ratio of 11.24x, lower than its twenty-year average. And if we use the DCF Model, we will derive a target price of $178.27, 14.8% higher than the current stock price.
Buy and sell or rent it out
Property prices may be elevated, but interest rates are more manageable today. While a buy-and-sell property can be risky today, returns will exceed expectations. Yet, I suggest waiting for the price to dip further so it will be easier to sell them eventually when the price regains momentum.
Property rentals can also be viable for owners. Whether residential or commercial, leasing a space can help you make ends meet. You can even use the lessee’s payments to cover your monthly amortization. You can also use it for vacation rentals, especially near tourist destinations.
Commercial spaces are also in demand today as more companies implement return-to-office and hybrid work setups. The pandemic scare has subsided, so working in the office is fine now. Occupancy rates in residential spaces are starting to rebound.
Key Takeaways
The real estate market appears risky and volatile today. Yet, growth prospects are rosier as macroeconomic indicators improve. Investing in them can lead to returns higher than your expectations. You must closely watch the real estate market trend to determine the right investment timing.
