Market Dynamics: Area Analysis & Influences

Chapter: Market Dynamics: Area Analysis & Influences

Introduction

This chapter delves into the critical process of market area analysis, a fundamental component of understanding real estate market dynamics. We will move beyond the traditional “neighborhood analysis” concept, focusing on identifying market area boundaries and examining the intricate web of social, economic, governmental, and environmental influences that collectively shape property values within those boundaries. This analysis is distinct from market analysis, which more directly assesses the competitive supply and demand for a specific subject property.

1. Defining Geographical Boundaries

The boundaries of market areas, neighborhoods, and districts delineate the zones that exert influence on a subject property’s value. These boundaries may coincide with observable shifts in land use patterns or demographic characteristics.

1. Physical Characteristics and Land Use Districts:
   Physical features play a vital role in identifying land use districts. These include:

   • Structure types (single-family homes, apartments, commercial buildings)
   • Street patterns (grid, curvilinear, cul-de-sacs)
   • Terrain (flat, sloping, hilly)
   • Vegetation (forests, grasslands, parks)
   • Lot sizes (large estates, small urban lots)
   • architectural styles❓ and maintenance levels

2. Topographical and Man-Made Barriers:
   Significant boundaries can also be defined by:

   • Transportation arteries (highways, major streets, railroads)
   • Bodies of water (rivers, lakes, streams)
   • Changes in elevation (hills, mountains, cliffs, valleys)

3. Practical Steps for Defining Market Area Boundaries:
   To effectively delineate a market area, appraisers should follow a systematic approach:

   1. Examine the Subject Property: The process begins with a thorough understanding of the subject property’s characteristics.

   2. Examine the Area’s Physical Characteristics: Conduct a physical inspection of the area, noting:
      Degree of similarity in land uses.
      Structure types.
      Architectural styles.
      Maintenance and upkeep.
      Using a map, identify points where these characteristics change and note any physical barriers coinciding with these points.

   3. Determine Preliminary Boundaries on a Map: Connect the points where physical characteristics change to create a preliminary geospatial boundary.

   4. Correlate with Demographic Data: Overlay the preliminary boundaries on maps of geographical areas (e.g., zip codes, census tracts, block groups) and assess the correlation with demographic data. Segment data to delineate submarkets, supplementing with information from chambers of commerce, universities, and research organizations.

4. The Importance of Primary Research: Supplement secondary data with primary research such as surveys and interviews of local residents, business people, brokers, and community representatives to understand perceptions of the market area.

5. Defining Districts: Variations in relevant property characteristics may necessitate establishing more limited district boundaries than for a broader market area. Consider, for example, an urban area where high-rise apartments are clustered along a lakeshore, separated from other uses by major roadways. Significant variations in apartment prices, sizes, views, parking, transit access, and building ages suggest limited district boundaries.

2. Change and Transition in Real Estate Markets

Appraisers must recognize the potential for change and transition within real estate markets, considering trends in market growth and composition. Transition, resulting from change, is a distinct concept.

1. Transition as a Result of Change: The arrival of a major employer❓ can shift demand for residential property, leading to the transition of undeveloped land to residential use.

2. Indicators of Transition: Transition is often indicated by variations within the neighborhood or market area, such as a residential area with a mix of well-maintained and poorly maintained homes, or the introduction of different uses (e.g., apartments or offices) into a single-unit residential neighborhood.

3. Interconnected Markets: Changes in one market area are influenced by changes in competing areas and the larger region. Suburban business centers can impact a city’s central business district; newer residential areas can affect older areas.

4. Supply and Demand Shifts: An increase in the supply of new homes may cause residents to move from older homes, impacting market values across the area. Location attractiveness for more intensive land uses can lead to remodeling or demolition of existing improvements.

5. Market Evidence of Changing Markets: Guide Note 12 to the Standards of Professional Practice of the Appraisal Institute highlights signs of changing markets, including:

   • Bubble Market: Prices increasing faster than rents, shorter marketing times, increase in vacant properties after purchase.
   • Bust Market: Increase in foreclosures and tightening of credit markets.

3. Value Influences in Real Estate Markets

The four forces that influence value – social, economic, governmental, and environmental – interact in the marketplace. A careful study of general data related to a real estate market’s character is a prerequisite to market analysis, highest and best use analysis, and the approaches to value.

3.1 Social Influences

Social characteristics influence property values. Comparing price levels in one market with prices in competing areas indicates overall desirability.

1. Key Demographic Characteristics:
   Focus on demographic characteristics that most significantly influence property values, such as:

   • Age Distribution: Influences demand for schools, retirement communities, and other age-specific amenities.
   • Household Size and Composition: Affects the type and size of housing demanded.
   • Educational Attainment: Often correlates with income levels and housing preferences.
   • Lifestyle Preferences: Influences demand for certain types of properties and amenities.

2. Data Analysis:
   Use statistical techniques to analyze demographic data and identify trends:

   • Descriptive Statistics: Calculate mean, median, and standard deviation to understand population characteristics.

   • Regression Analysis: Model the relationship between demographic variables and property values. For example:

     P = β0 + β1A + β2I + ε

     Where:
     * P = Property Value
     * A = Average Age in the area
     * I = Median Household Income
     * β0, β1, β2 = Regression Coefficients
     * ε = Error term

3. Ethical Considerations:
   Appraisers must perform unbiased analyses of neighborhoods, districts, and market areas. The Ethics Rule of USPAP prohibits using or relying on unsupported conclusions relating to characteristics such as race, color, religion, national origin, gender, marital status, familial status, age, receipt of public assistance income, handicap, or an unsupported conclusion that homogeneity of such characteristics is necessary to maximize value.

3.2 Economic Influences

Economic influences and government policy significantly affect residential and commercial real estate markets.

1. Key Economic Indicators:
   Consider the following economic characteristics:

   • Mean and median household income levels
   • Per capita income
   • Income distribution for households
   • Consumer activity (retail sales, spending patterns)
   • Extent of owner occupancy vs. renter occupancy
   • Property rent levels and trends
   • Property value levels and trends
   • Vacancy rates for various property types
   • Amount of development and construction

2. Economic Base Analysis:
   Assess the strength and stability of the local economy:

   • Employment Sectors: Identify dominant industries and their vulnerability to economic fluctuations.
   • Unemployment Rate: Indicates the health of the labor market.
   • Job Growth: Reflects economic expansion or contraction.

3. Financial Capacity of Occupants:
   Analyze the financial capacity of market area occupants to rent, own, maintain, renovate, or rehabilitate property.

4. Forecasting Techniques:

   • Time Series Analysis: Analyze historical economic data to forecast future trends.
     *ARIMA Models: Autoregressive Integrated Moving Average models can predict future economic indicators based on past values.
   • Leading Indicators: Monitor economic indicators that tend to precede economic changes (e.g., building permits, consumer confidence).

3.3 Governmental Influences

Government action affects the economic climate for real estate investment.

1. Local Level Governmental Considerations:
   Consider the following governmental characteristics:

   • Property tax burden (including special assessments) relative to services provided, compared with other areas in the community.
   • Policies regarding developmental growth.
   • Local government development levies (impact fees).
   • Zoning, building, and housing codes.
   • Quality of public services, such as fire and police protection, schools, and other governmental services.
   • Environmental regulations.

2. Land Use Regulations:

   • Zoning Ordinances: Regulate land use and density of development.
   • Building Codes: Set standards for construction and safety.
   • Land Use Plans: Provide a framework for future development.

3. Governmental Impact Analysis:

   • Tax Incidence Analysis: Determine how property taxes affect different property types.
   • Fiscal Impact Analysis: Assess the costs and benefits of new development on local government services.

3.4 Environmental Influences

Environmental considerations consist of natural or man-made features affecting the property’s location.

1. Key Environmental Factors:
   Consider the following environmental characteristics:

   • Topographical features (terrain and vegetation)
   • Environmental features important to wildlife habitat
   • Navigable waterways
   • Open space
   • Nuisances and hazards emanating from nearby facilities (e.g., odors, noises, pollution)
   • Adequacy of public utilities (streetlights, water, sewers, electricity)
   • General maintenance and effective ages of properties
   • Changes in property use and land use patterns
   • Traffic flow and traffic patterns
   • Environmental liabilities (threat of landslides or flooding)
   • Access to public transportation, schools, stores, parks, etc.

2. Environmental Risk Assessment:

   • Phase I Environmental Site Assessment: Identifies potential environmental liabilities based on historical records and site reconnaissance.
   • Phase II Environmental Site Assessment: Involves sampling and analysis to determine the presence and extent of contamination.

3. Location and Accessibility:

   • Time-Distance Analysis: Measure the time and distance relationships between a property and key destinations.

   • Accessibility Indices: Quantify the ease of access to amenities and services. A simple index could be:

     AI = Σ (Ai / Di)

     Where:
     * AI = Accessibility Index
     * Ai = Attractiveness of destination i (e.g., number of jobs, retail sales)
     * Di = Distance to destination i

4. Conclusion

Market area analysis is a dynamic and multi-faceted process. By understanding the interplay of social, economic, governmental, and environmental forces, appraisers can develop a comprehensive understanding of the factors that influence real estate values within specific market areas. This comprehensive understanding forms the bedrock of sound valuation and investment decisions.