L2 Introduction to Property Market Basics

The Nature of Property Markets

• General Structure: Real Estate markets are not a single monolith; they consist of a very large number of separate markets.

• Market Segmentation: A market is considered "segmented" if it breaks up into sub-markets or market segments. These segments are differentiated by two primary factors:

  • Usage: The purpose for which the property is utilized.

  • Geography: The physical location of the property.

• Sub-market Characteristics:

  • Sub-markets are generally characterized by substitutable properties.

  • The same good may have a different equilibrium price in different sub-markets.

Market Segmentation by Use and Geography

• Segmentation by Use: Markets are first divided into broad categories, which are then further divided into smaller sub-markets:

  • Residential: Includes separate houses, townhouses, villas, and apartments/flats.

  • Offices: Categorized by quality, such as Premium, A-grade, and Secondary.

  • Retail: Includes CBD (Central Business District), Regional Shopping Centres, and Neighbourhood Shopping Centres.

  • Industrial: Includes distribution warehouses, workshops, and factories.

  • Leisure: Includes hotels, bars, golf courses, and leisure centres.

• Segmentation by Geography: Sub-markets are further segmented based on geographic units that are often economically related. The hierarchy generally follows:

  • Australian Property Market

  • State Property Market

  • Capital City and Rest of State

  • Local Government Area

  • Suburb

Resource Allocation and Economic Sectors

• Allocation: Real estate resources are allocated among various users including individuals, households, businesses, and institutions.

• The User Market: Refers to real estate as space. The occupiers in this market are the tenants.

• The Capital Market: Refers to real estate as an asset. The participants are the investors (landlords).

• Value Interdependence: Value is derived from the interaction of three distinct sectors in the economy:

  1. 'Real' World (Space/User Markets): Represents the demand for space.

  2. 'Financial' World (Asset/Capital Markets): Represents the supply of capital and investment.

  3. Government: Represents regulation at all levels.

Value Determination and the Economy

• The "Real World": Influenced by construction costs and the demand for space and location.

• The "Financial World": Influenced by savings, non-real estate investment opportunities, and required returns.

• Determination Mechanism:

  • User Markets: Determine rental rates based on demand and supply.

  • Capital Markets: Determine required yields based on savings and investment opportunities.

  • Value: Calculated based on property cash flow and required yields.

• Government Influence:

  • Local Government: Handles land use controls and property tax.

  • State Government: Manages various regulations.

  • Federal Government: Oversees financial regulations and income tax.

Functional and Financial Roles of Real Estate

• Functional Role (Real Estate as Space):

  • Provides functional benefits such as shelter (a roof over one's head) or premises for manufacturing goods.

  • A tenant derives a functional benefit from a dwelling as a place to live.

• Financial Role (Real Estate as an Asset):

  • Provides a return on capital invested, serving as a vehicle for financial gain.

  • A landlord derives financial benefit from rent and capital growth but no functional benefit if they do not occupy the property.

• Benefit Distribution:

  • Owner-Occupier: Derives both functional and financial benefits (common in residential and industrial property).

  • Tenant (Occupier): Derives functional benefit only.

  • Investor (Owner): Derives financial benefit only (common in retail and offices).

Characteristics of Real Estate Markets

• Immobile: The asset is physically fixed to a location.

• Indivisible: Real estate cannot normally be purchased, sold, used, delivered, or divided into small increments.

• Illiquid: Assets cannot be converted to cash quickly. Time is required for locating purchasers, acquiring funds, and completing documentation for transfer and settlement.

• Lumpy: Characterized by high transaction costs. The size of the smallest unit of real estate is much larger compared to other asset classes.

• Durable: Not easily destroyed, manufactured, modified, or consumed. While buildings are temporary, land is considered permanent.

• Heterogeneous: Each property is unique and possesses individual characteristics and features.

Market Imperfections and Industry Roles

• Imperfect Information: There is no central market place (unlike the Australian Stock Exchange), leading to information gaps.

• Role of Real Estate Firms:

  • Agents: Responsible for putting buyers and sellers together.

  • Valuers: Responsible for deriving market values.

  • Investment Analysts: Responsible for identifying investment worth and mispriced assets.

  • Real Estate Market Analysts: Provide data analysis to inform real estate decisions.

Property Industry Participants and Organizations

• Industry Stakeholders: Includes Government, Developers, Property market analysts, Finance organisations, Town planners, Architects and designers, Engineers, Surveyors, Construction/Builders, Valuers, Real estate agents, settlement agents (conveyancers), and Property/Asset managers.

• Professional Bodies:

  • Australian Property Institute (API): Accredits the Property Development and Valuation Extension Major.

  • Royal Institute of Chartered Surveyors (RICS): Accredits the Property Development and Valuation Extension Major.

  • Property Council (Western Australia).

  • Urban Development Institute of Australia – WA (UDIA).

  • Real Estate Institute of Western Australia (REIWA).

Basic Real Estate Market Processes

• Sales Process:

  1. Contact real estate agency.

  2. Market Research, Appraisal, and written authority.

  3. Listing (Database, Advertise, Matching prospects, Home open).

  4. Offer and Acceptance.

  5. Conditions.

  6. Settlement.

• Leasing Process:

  1. Contact real estate agency.

  2. Market Research, Appraisal, and written authority.

  3. Listing (Database, Advertise, Matching prospects, Home open).

  4. Execution of Rent agreement (Form 1AA for general; Form 1A for residential tenancy).

  5. Ongoing management of the property.

Property Management Definitions and Objectives

• The Hefferan (2012) Definition: Property Management is the translation of the required objectives by the asset owner through to the day-to-day operations and functioning of the building. This includes:

  • Leasing and tenancy management.

  • Budgetary cost management.

  • Operational management.

  • Contracting out and reporting under legal concepts of agency.

• The IREM (2011) Definition: Overseeing the operations and maintenance of real property according to owner objectives.

• Owner Objectives for Investment:

  • Capital preservation and appreciation.

  • Regular income.

  • Income tax advantage.

Residential vs. Commercial Property Management

• Residential Property Management:

  • Primarily involves "Mom & Dad" investors.

  • Governed by the Residential Tenancies Act 1987 and Residential Tenancies Regulations 1989.

  • Typically involves many properties in close proximity.

  • Operates on strict procedures.

  • One experienced Property Manager (PM) should manage approximately $100 - 200$ residential properties.

• Commercial Property Management:

  • Involves institutional owners or investors with larger portfolios.

  • Fewer properties are managed by each PM compared to residential.

  • Characterized by larger tenants and flexible but longer lease terms.

  • Tenancy mix is based on the quality of the building.

  • Generally requires less maintenance as businesses must maintain a professional image.

  • Lease conditions are usually more complicated.

  • Focused on: Site management, Financial management, Leasing administration, Tenant management, and Asset management.