When it comes to conversations about real estate, the land market doesn’t receive nearly enough consideration. Land markets have a primary impact on real estate markets, and the real estate market in turn has a primary impact on long-term market cycles. In this article we’ll delve into the predictable cycles of the land market based on past downturns and look at what may lie ahead in the years to come.
“This Time Is Different”
The belief that “this time is different” often dominates conversations about the state of the real estate market. People tend to be skeptical about the possibility of another downturn especially after seeing the drop in property values during the 2007 to 2012 financial crisis and how long ago that was. Nevertheless history demonstrates that real estate markets follow cycles and undergo adjustments.
In the recent economic downturn the nationwide real estate market saw a significant drop of around 32.8%. However the impact on the land market was even more severe with commercial land prices plummeting by 59% and residential land values falling by 69% from their peak in 2006 to their lowest point in 2011. This stark contrast highlights that while home prices may stabilize land values can undergo declines during periods of economic hardship.
Cities such as Atlanta and Chicago saw a decrease, in land values by 74% and 76% respectively during this time frame. Even prosperous areas in South Florida faced a decline of 83%. These statistics underscore the susceptibility of land prices to economic downturns and stress the importance of being cautious for landowners and investors during prolonged periods of rising land values.
How The Market for Location Works
To truly understand how the land market works it’s essential to grasp the idea of location. The saying “location, location, location” sums up the notion that the worth of land is closely linked to where its situated. For example when it comes to selling newspapers setting up shop in a busy business area can bring in more profits compared to doing so in a spot with greater foot traffic – even if the underlying activity (selling newspapers) remains identical.
The difference in locational value is due to what economists call “economic rent.” This refers to the potential income attributed land solely on its location. Its important to note that while structures, like houses, may lose value over time the land itself retains its worth. This makes land particularly susceptible to changes in business activity.
The value of land is influenced by fluctuations in the economy more than any other real estate asset. When there is a surge in activity the demand for prime locations rises. On the other hand, during periods of economic decline the demand for land may drop sharply resulting in adjustments in prices. It’s crucial for investors and landowners to stay aware of these changes to make choices.
Land Market Crashes in History
Throughout history there has been a pattern of land market downturns happening roughly every 18 to 20 years. For instance during the savings and loan crisis in the late 1980s and early 1990s land values plummeted by about 50% when adjusted for inflation. Similarly the recession that occurred from 1973 to 1975, due to the oil crisis also led to significant decreases in land values.
Throughout the Great Depression home values dropped by approximately 37% with land prices experiencing an even sharper decline. These past instances suggest that substantial declines in the market are not unusual occurrences but rather a recurring pattern. Recognizing these trends can assist investors in bracing for upcoming market adjustments.
Regularly examining data and grasping the economic signs that signal a recession is crucial. Since inflation influences how people view their wealth it can cloud the actual fluctuations in property values in real time. This complicates the process of accurately evaluating market trends.
Land Prices and Market Cycles
The relationship between land values and the wider real estate sector is essential. Real estate encompasses a mix of residential and commercial properties that are more important to bank lending than stocks or bonds. Approximately 50% of bank loans are backed by real estate underscoring the importance of the land market to long-term credit cycles.
When the economy bounces back from slumps property prices tend to go up prompting more lending. This boost in lending activity then fuels additional economic growth and real estate investments. However once the market reaches its peak signs of excessive borrowing start to show. This results in an increase in unsold properties, a drop in transaction volumes and eventually a decrease in prices.
More urgently, declining real estate values crush the value of bank collateral, which puts a chokehold on bank lending. As credit dries up, prices plummet even further. Bank failures soon follow, at which point you know that the most recent phase of the long-term real estate cycles is reaching its final conclusion.
Falling real estate values and the financial crisis it creates distinguish end-of-cycle recessions (Global Financial Crisis of 2007, Savings and Loan Crisis of the late 1980s) from mid-cycle corrections (Dot Com Bubble, 2020 Pandemic) – when real estate values keep rising, banks have nothing to fear. When they fall, banks have everything to fear.
The Next Crash
While examining the state of the market it’s important to stay alert. Past trends indicate that we might be approaching a point in the land market cycle. Recent information shows that land prices have remained steady and the impact of inflation could be hiding drops in value that are already occurring.
Investors need to keep an eye on real (inflation-adjusted) home values in incoming sales data and be ready for possible market downturns that begin to appear in the data.
By looking at trends recognizing the fundamental significance of location to real estate and the impact of real estate on long-term market conditions, investors and landowners can effectively handle the challenges of the land market and get ready for upcoming developments.
For individuals engaged in real estate investment or property ownership staying ahead of the game and well informed is crucial. The upcoming downturn could be approaching and those who are ready will have the advantage in seizing opportunities and those who are not will not be as fortunate.