In this post we focus on the Growth Rate Cycle feature. GRC uncovers market cyclicity not immediately available from the price charts featured in the previous post.
To recap this is the 3rd post in a property investment case study. We aim to explore and assess markets based on key real estate metrics:
- In part 1 we’ve learned the key property investment metrics
- Explained main features of the country-wide LGA heatmap and ranking table
- Brainstormed strategy implications based on Capital Growth, Gross Yield and Rent Increase metrics
- In part 2 we drilled down to suburb data within Camden LGA
- Summarised the second level search steps
- Learned to infer market fundamentals via visual trend analysis
Table of Contents
Although trend visualisation is a powerful tool, determining market fundamentals from this feature alone is not always sufficient. It becomes pertinent only when considered alongside the rate of growth for an area.
This information can be obtained from the Growth Rate Cycle chart on every LGA dashboard.
The GRC represents the rate of ‘year on year’ change in typical value of properties in an area. Interestingly, the data behind the price chart seen in part 2 and the GRC is exactly the same. The only difference is in the way it’s presented.
Yearly price changes are plotted on a time series chart instead of actual values. Representing data as yearly percent changes is a well known approach data scientists use to better understand hidden cyclicity in the data.
Growth Rate Cycle is a little different to the property clock, which is used to determine the position of the area in the market cycle. The best way to highlight this difference is to explain the philosophy behind the ‘property clock’ notion first.
What is the Property Clock?
The property clock is tied to the change of value of a particular property market. As property markets are cyclical, prices follow a trend that goes from a peak to a bottom and to a peak again.
According to finder.com.au: “The property clock is a useful method of tracking the property market cycle. It is based on the recognised stages of the property cycle:
- a boom followed by a downswing in prices,
- bust as the market hits the bottom of the cycle,
- and then a recovery period as the market builds towards the next boom. “
The usefulness of understanding the property clock is that an investor can utilise the cyclical movements of the property market to maximise returns.
The property clock depicts price movements within one property cycle that spans from 7-10 years. As such, the property clock would suggest that within those 7-10 years, prices move following a more or less stable pattern.
Given that real estate an illiquid asset, property transactions and resulting typical price movements are not as fast and sporadic as that of other asset types. This gives the real estate investor enough ‘breathing space’ to ascertain the market position of different areas and ‘get the best value for money’ from their investment.
In simple terms, buying at the peak will result in a diminished ROI. Any subsequent price movement will be one of loss due to decreasing prices.
On the other hand, buying at the bottom will result in an increased ROI. Prices have nowhere else to go but up.
How is the Growth Rate Cycle different?
Unlike the property clock, Growth Rate Cycle is tied to the quantifiable change in the rate of price growth as opposed to the non-quantifiable (and in most cases opinion based) time on the property clock.
GRC’s differences with the property clock have to be further nuanced. It represents a much more sensitive way of assessing cyclicity of a particular area.
“While the property clock is undoubtedly a useful tool for home buyers and investors, it does have a few key limitations you should be aware of. It’s worth remembering that the property clock is basically used to predict the future, so there’s always a risk of unexpected economic or market developments producing a deviation in the property cycle.” : finder.com.au
GRC deals with one inherent limitation of the property clock. It is a preconceived idea that property markets behave in a stable and predictable fashion. Property clock assumes that reduction in the market typical values after prices have peaked is inevitable and certain.
Although the property clock suggests markets move cyclically, it nonetheless does not appropriately consider historical price movements to account for what finder.com.au terms as ‘unexpected’ economic conditions. Given a large enough timescale, GRC considers price movements more holistically and adequately accounts for all market changes. Both historical and projected.
Busting myth one: Declining market = decrease in house prices
If we focus on the change in property values within a time frame of 7-10 years, the price movements are somewhat cyclical and predictable in such a way that a peak is followed by a bottom and vice versa.
This is clear from the image below, which highlights Camden Council prices. They follow a pattern of slow but steady increases between 2009-2013. The values then rise to reach a peak at about 2018 and decline to a new lower bottom in 2019.
The macro-scale of the property clock would suggest that a declining market is always indicative of negative growth. However, irrespective of how counter-intuitive it might seem, a ‘declining market’ in GRC terms can correspond to positive growth in prices.
To illustrate this, please refer back to 2016-2018 section of the Camden Council GRC graph above. Consider the downward trajectory of the line within these two years. It is evident that Camden Council’s rate of growth is ‘declining’. However, its ‘growth rate’ is still positive (above the read line).
At its peak in 2015, Camden Council experienced about 17% growth in its typical value. In 2016, 2017, 2018 on the other hand, its growth was slowing to 12%, 4%, 1% respectively.
To summarise here are the Camden LGA peaks and troughs for GRC and Property Clock cycles:
- Troughs: 2012(+), 2019(-)
- Peaks: 2015(+), 2022(+)
- Property Clock
- Troughs: 2019
- Peaks: 2018, 2023(?)
As you can see, the GRC trough of 2012 remains ‘invisible’ on the property clock. It would have been a great point of entry into the market.
GRC also shows us that the next peak is in 2022, whereas the property clock is inconclusive.
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Key Benefits of Growth Rate Cycle
GRC provides macro cyclical information allowing us to determine both the length and stability of the price growth rate within a particular area:
- A more detailed depiction of the area’s rebound cycles
- The GRC highlights patterns in price changes, so we understand the current position of an area within a time continuum.
- For example, an area’s typical value can be decreasing, while its negative growth rate can be slowing. This indicates that an area has rebounded and is positioned for an imminent price increase.
- ‘Sneak peek’ into what happens when prices increase
- GRC provides a more intelligent timing and planning tool respective to our investment window.
- An area can experience increases in prices but show signs of a downward trajectory in the rate of growth. This minimises future capitalisation on long-term investment.
- A better area ranking tool permitting for a more nuanced ‘investment grading’ of areas in terms of ROI.
- Homebuyers and property investors can determine the effects of compounded capital growth on their initial investment between different areas of interest.
- We have come up with 8 GRC positions which grades markets based on their likely growth rate. See Other Property Market Metrics section on data dictionary.
GRC simplifies the assessment of areas in terms of potential return on investment, which usually require the investor to collate and analyse statistics on a plethora of additional variables. As such, the GRC feature minimises the complexity of astute investment decision-making.
Busting myth two: Understanding supply and demand always requires analysis of multiple metrics
In addition to previous arguments, the cycle highlighted on the last chart above becomes specifically meaningful when compared against other (areas) cycles. In simple terms, lengthier cycles would suggest that property values spend longer at peaks and bottoms, which becomes pertinent when considering timing the market to get the best value for money.
More importantly, lengthier and smoother cycles are indicative of solid market fundamentals. This eliminates the need to inquire into other variables, as it has already been represented in the solid and steady historical movements within the cycle. It also becomes a useful benchmark when superimposed against areas that exhibit shorter and more sporadic cycles indicative of some ‘one industry’ Councils.
HtAG’s argument is that one should not need to be an economist or a savvy property investment professional with decades of experience to be able to invest in property. In respect to this, I have some food for thought – would an area with poor market fundamentals such as weak population growth, high unemployment and oversupply follow the same GRC pattern as one presented for Camden Council? The best way to answer this question is with an illustration.
Graph below represents the growth rate cycle of Rockhampton in Queensland. 2016 Census data suggests Rockhampton’s population was 79,726 people. Analogously Camden’s population was 78,216.
Looking at GRC for the two Council Areas and considering that both areas have a nearly identical population, it is safe to say that Camden has much better market fundamentals than Rockhampton. This is a conclusion I reach by merely looking at the graph without spending days and weeks collecting, tabulating and analysing statistics.
One rule to ‘rule them all’
The static and isolated nature of the property clock would thus provide no service. It would not ‘contextualise’ the existing position of an area within a cycle by considering the current cycle position in terms its historical movements. When superimposing the two charts we can see that Rockhampton cycles have not been as steady and clearly defined as Camden’s. The growth rate was also predominantly sitting in the negative growth section of the graph.
We come to one of the benchmarks HtAG has introduced for assessing an area based on GRC which eliminates the requirement of employing general economic modelling.
The Negative Growth Rule suggests that investment potential of an area diminishes respective to the number of times the area has ventured into negative growth territory on the GRC chart.Terry James, HtAG Analytics
Growth rate below zero red line in the Rockhampton graph suggests that the supply and demand is imbalanced. This minimises the investor’s opportunity for taking advantage of compounded capital growth.
Venturing a guess, this means that Rockhampton has a disbalance in the supply and demand. This is either founded on weak population growth, an oversupply of properties, higher trending unemployment or other factors. Making it an unsuitable investment area when benchmarked against a market which shows a stable growth rate pattern. For example, Casey City on the diagram below.
As such, even though in the past some property professionals considered Rockhampton as a solid investment market, there is no need for me to source additional data in order to take it off my list. Rockhampton has been hovering under the zero growth line for around 10 years and is more than likely not positioned to rebound to a level that would make it an investment-grade market any time soon.
One critical aspect of knowing the ‘historical behaviour of the area’ is to ascertain the number of times the growth rate of the market has been negative. In addition to knowing the ‘stability’ of price changes, I would also find it very useful to know if the area has experienced negative growth on more than one occasion. Areas that continuously fall in the negative-growth category typically exhibit weak market fundamentals. These areas also often have an imbalanced relationship between supply and demand.
HtAG’s regression analysis suggests that external variables rarely have an impact on price growth within a particular area. As such, determining which variable (i.e. population growth, unemployment, building approvals, etc.) correlates best with price growth is a superfluous process. If one variable has a strong influence on price growth in a particular location, this influence cannot be replicated elsewhere.
Every property market is unique and there is no one hard and fast rule to model price trends. Growth and decline cycle is the only stable and unchanging component that applies to all property markets in Australia.
Using the GRC as a proxy to market fundamentals, we can ascertain the investment grade of an area quickly and intuitively.
In the next post we explore ‘spill over’ analysis and assess demand for a particular dwelling type in an area.
Continue to part 4 >>>