The real estate market is dynamic and connected to the overall economy, but it’s also subject to regular periods of boom and bust. For home buyers and investors, understanding the four main real estate market cycles — and the nuanced nature of the housing market — is the key to choosing smart strategies that can adapt to the market’s ups and downs.
The real estate market cycle is an economic pattern of activity in housing markets with four phases:
The concept of predicting cyclical market phases goes back nearly a hundred years. The U.S. housing market is in one of the four phases at any given time, and real estate professionals, home buyers, investors, and others may use the current phase to inform their strategy to buy, hold, or sell.
While it’s difficult to precisely predict their exact length, research indicates that real estate cycles generally last about 18 years. Disruptions like the COVID-19 pandemic can play a large role in how accurately experts can forecast how the housing market might behave.
The four phases of the real estate market cycle can be characterized as:
The recovery phase typically begins after a low point in a recession phase, when occupancy and rental rates are low and new construction is stagnant. The recovery phase may be tricky to identify, because to many homeowners or renters, recovery still looks and feels like recession. Experts rely on trends such as upticks in property viewings, occupancy rates, and growing demand to signal when the market has moved into a recovery phase.
The expansion phase is a period of growth and increased consumer optimism as the general economy improves. Vacancy rates are low, rents and property values are rising, and new construction has rebounded with supply and demand reaching an equilibrium.
Hyper supply is a tipping point in which supply has met and exceeded demand. This may be due to an oversaturation of inventory on the market, an economic downturn, or an external event that has caused consumer demand to pull back.
The recession phase is a period of economic and market contraction. The recession phase can be challenging for homeowners and investors as property values decline and economic pressures intensify. Interest rates may climb, foreclosures increase, and supply far outweighs demand with accompanying high vacancy rates.
The real estate market plays a significant role in the U.S. economy. Its performance, along with its cycles, can act as an indicator reflecting the overall health of the economy.
An understanding of the real estate market cycles is essential for making informed decisions about buying, selling, or holding properties. Additionally, knowing which phase the real estate cycle is in allows homeowners or investors to more accurately predict a property’s appreciation or income potential.
Real estate markets are influenced by several factors, but the main variables to consider include:
Economic Conditions: Economic indicators such as GDP growth, employment rates, and consumer spending can shape the real estate market cycle. Generally, when the economy is strong or trending upward, consumers have more money and feel confident in purchasing real estate. Conversely, when the economy is sluggish or downward trending, the real estate market follows suit.
Demographics: Population growth and migration patterns can affect real estate cycles. For example, the entry of a large population into the housing market, such as millennials, can drive trends such as renting versus buying, or create a spike in housing demand. Retiring baby boomers, on the other hand, may drive shifts in the market as they downsize or relocate to vacation areas.
Interest rates: Interest rates set by central banks affect mortgage rates and borrowing costs. High interest rates can diminish a would-be home buyer’s purchasing power and deter them from buying. Low interest rates can make the long-term cost of financing a house more affordable, and may encourage an uptick in the housing market.
Government policies: Government policies including tax deductions, tax credits, home buyer programs and incentives, and stimulus plans can help to jumpstart a sluggish economy and spur investment in the housing market.
Although there’s no guaranteed strategy to follow for home buying or investing during a given market phase, investment trends typically correspond to the real estate cycle.
This phase is usually a good time for investors to focus on undervalued properties like foreclosures in areas with growth potential. Home buyers can take advantage of relatively low prices, but should exercise caution when it comes to over-leveraging their finances, or purchasing in an area that may not appreciate significantly in the future.
With the market picking up, both demand and prices are on the rise. Investors may consider value-add strategies like renovation, as well as more traditional buy-and-hold investments, multifamily properties, or commercial investments. Home buyers should prepare themselves for more competition and higher prices, and focus on areas with solid prospects for long-term development or growth.
With an oversupply of properties on the market, prices start to plateau or decline. Investors typically hold off on new purchases and instead focus on managing existing properties, while maintaining caution about overspending. This can be a good time for home buyers to purchase as prices stabilize or drop because of reduced demand. But buyers still ought to give extra consideration to the property's location and its long-term outlook.
As the market takes a downturn, prices tend to decrease significantly, and there could be a higher number of distressed properties. Some investors will want to take advantage of significant discounts by looking at foreclosed or bank-owned homes. For home buyers in a stable financial position, this might be an opportune time to buy. But remember, recessions are considered high-risk periods.
The tips we've covered are general guidelines. As always, it's important to do your own research regarding historical data, economic indicators, and other trends in locations you want to invest in. Consider your risk tolerance, and if possible, consult with real estate professionals who are familiar with the market you’re looking at. Above all, be ready and willing to adjust your strategy based on the current real estate market cycle — as flexibility is key to real estate success.