Three Different Forms Of The Real Estate "Market"

Many new real estate investors start out by viewing the market as a singular matter. In fact, however, there are three distinct markets and each needs to be evaluated to determine investment value.

1. Supply and demand for housing. The first and most obvious is the supply and demand that most people understand. The equation is not complicated. When an excess of available homes are on the market, prices often and decline. When there are more buyers than homes, prices are driven up. Investors have to understand, of course, that this offsetting force of supply and demand varies considerably between different markets. This all too often is overlooked.

2. The rental market. The same supply and demand factors are at play among tenants and landlords. An abundance of available rental homes softens the market rent level; and when an excess of tenants are chasing after a limited amount of rental units, the higher demand drives up prices. This has been seen in recent years. In many real estate markets, housing prices have declined even as market rents increase. This has occurred for a good reason. Many more renters are on the market because many who once would be first-time buyers are worried about the stability of the housing market. This drives two economic forces. First, less demand for owner-occupied homes drives prices lower. Second, those would-be buyers become renters. Today, the level of renters (versus buyers) has risen over several years. So for investors, this is a perfect combination: Lower housing costs and higher market rents.

3. The mortgage market. In the past, there have been times when getting a loan on any terms was extremely difficult. When mortgage rates approached 20% in the late 1970s, qualifying was impossible for many people, so creative financing became a buzzword. The balloon mortgage, graduated payment, and variable rate mortgage were all popular in this era. At other times, financing was easy, too easy. As everyone realized by 2008 and 2009, liberalized approval and stated loans ("no doc" loans) led to mortgages granted to many homeowners who could not afford payments. Unavoidably, this resulted in record high foreclosures in many previously hot markets.

With the three distinct markets in mind, real estate investors are better able to evaluate their local market and to understand the investment fundamentals, before they invest. These fundamentals are the equivalent of stock market fundamentals of a company (revenue and income, level of long-term debt, dividends, etc.) and are just as important. Knowing your market before you begin investing in real estate is essential - and knowing all about the three different markets is a wise first step.