Why real estate remains good investment during economic downturn
Policy interventions during financial and economic crises tend to benefit both the supply and demand sides of real estate.
Recovery from the global economic downturn caused by the Covid-19 pandemic has become uncertain. A case in point is the United States where the economy contracted in the first two quarters of the year. Going by the classical definition, the US economy is in recession, given the two consecutive negative GDP growth rates of -1.6% in Q1 and -0.6% in Q2. But opinions are divided whether the world’s largest economy is in recession because of the strong performance of its labour market and the fact that the fundamentals of the economy remain quite strong. Across the world, economic uncertainty holds sway.
In Nigeria, the economy has returned to growth. But growth momentum is weak. Whether it will strengthen is uncertain. The February 2023 general election though offers a promise of change, it is not sure if the economic status quo will continue. This is due to the perpetuity of economic underperformance in nearly the last decade. The country also has a public debt overhang, similar to what obtained before and in the first half-decade of the 2000s. With over 70% of government revenue gulped by debt service cost, financing growth through public investment will challenge the next administration.
The principal cause of uncertainty to the global economic outlook is inflation. Like elsewhere, Nigeria has responded to the threat of runaway inflation through the Central Bank by hiking interest rate. For the real estate sector, this means higher cost of finance and price increases for both local and foreign inputs for development and maintenance projects. The challenge of higher cost of foreign inputs is compounded by the depreciation in the naira exchange rate. Housing development in Nigeria is highly dependent of imported equipment, materials, and fittings.
Nevertheless, some see the challenging economic situation as an opportunity to invest in different asset classes. Acquiring assets at a bargain happens more when investors’ risk appetites are dampened by adverse economic and financial conditions. But when the duration of a downturn protracts, it conduces to more disincentive for investment. So, one may ask: “if an economic recovery is unpredictable, is it safe to invest at all?”
Investment in real estate is believed to be always safe and profitable. But the current situation may question the conventional wisdom. Scepticism about investing in Nigerian housing industry could be driven by a sense of political uncertainty associated with the next election. Whereas the reform that a new government may bring should be expected to have positive impacts on the industry, prospective investors may decide to have a wait-and-see attitude. Some of the reforms that are necessary in the sector include repeal of the Land Use Act which vests ownership of land in the state governments, ease of registration of land titles, expansion of access to mortgages, provision of infrastructure, and incentives for private sector investments.
Modern real estate development remains in infancy in Nigeria, regardless of the dots of sophisticated commercial properties and affluent homes in our cities. The sector is poorly organised, standards are low, and most developers have very little financial and technical capacities. But investors and buyers are looking for sophisticated developers and superior return on investment. Many of them are also looking for housing that incorporates sustainability features, such as we have continued to advocate at Bilaad. However, only few developers can match these demands.
In spite of the foregoing, real estate remains an attractive investment proposition to discerning investors. Author Mark Twain said, “Buy land. They’re not making it anymore”. While this statement sounds humorous, its recommendation is valid. Land is a commodity that is inherently limited in supply. Its value will, therefore, continue to appreciate over the long-term, while short-term slowdown in price appreciation may loop in from time to time. This scenario is supported by population growth and urbanisation.
Modern financial advisors highlight other benefits of investing in real estate during economic headwinds such as the world is currently experiencing. Real estate offers investors opportunity to diversify their portfolios. It also offers stable income. Real estate assets are less susceptible to wild price swings. They have been known to offer better returns than bonds. According to U.S. News and World Report, “parts of the real estate sector can offer insulation against economic downturns”.
Some other reasons for investing in real estate during uncertain times are further discussed. Housing is always a basic need. When an economic crisis hits, people may lose their jobs and incomes. Where their homes are foreclosed, they will look for rental property. The point is that demand for housing is not mitigated by economic adversity. Whereas one can hold off on buying a new phone or a new car, it would be rare to find someone who would voluntarily decide to live on the streets.
The value of real estate is resilient to crisis. Housing may be swept away by flood, tsunami, fire, and other natural catastrophes, but total loss is rare. The title of the land on which the property is built will remain. This is the case even with damage caused by war, like the ongoing Russia-Ukraine military conflict. In situation of complete loss to a widespread catastrophe, it is common to see government support come to resettle displaced population. And unlike equities, real estate is not threatened by sheer economic or political news.
For the investor, real estate provides stable income. Housing prices are adjustable to inflation. During the 2008 global financial crisis and the Covid-19 pandemic, housing directly and indirectly benefitted from fiscal stimulus spending as well as extraordinary monetary policy that brought interest rate below zero percent in many jurisdictions. Policy interventions during financial and economic crises tend to benefit both the supply and demand sides of real estate. This supports the resilience of housing to crisis.
During the Great Depression, investors in residential estate space didn’t suffer as much as experienced in other sectors of the economy. In fact, single-family rental assets recorded positive values. Real estate assets are often quicker to rebound from downward volatility cause by crisis.
In summary, when the economy slows down, investing in real estate is an opportunity to preserve capital and make profit from the resulting fall or stagnation of prices. Incorrect assumptions about property prices and recessionary periods can prevent investors from seeking a real estate investment, whether it be a trust or buying residential property.
Disruptive crises are now occurring in short cycles. Thus, if one is not investing during normal time to benefit from the time-honoured appreciation in the value of real estate investment, seizing opportunity of lower prices during crisis for an asset class that is quite resilient to crisis is wise.
The many benefits of buying property in a slow economy doesn't guarantee that every investment will be successful. Where and what you buy should always be carefully considered.
Bilaad Realty Limited is an Abuja-based company focused on delivering sustainable real estate solutions.
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