In theory a real estate investment can be valued like a bond. It produces a stream of cash flows so its value should be based on the discounted cash flows. Even though they may not know how to calculate a net present value most real estate investors get the general concept. A higher cash flow is worth more than a lower cash flow, if you want a higher return on your investment (the discount rate) you either need higher cash flows or you need to pay less for the property, when interest rates go up your mortgage payments are going to be higher so they are worth less, and when interest rates go up there are other investment alternatives to consider so demand for real estate investments will go down.
Well, interest rates have been going up so you would expect the Chicago real estate investment market to pull back. But that doesn’t seem to be happening – yet. Our sense from working with real estate investors is that demand for investment properties is still pretty strong. But I prefer to look at data so I tried to figure out what data would shed some light on just how strong the Chicago real estate investment market is. There is no easy way to determine aggregate investment property values so instead I looked at market times and inventory levels. Fast market times and low inventory levels would indicate a strong market.
I also restricted my analysis to the higher income neighborhoods north of Cermak, south of Irving Park, and east of Western (Ashland, Morgan, and then Clark as you move further south).
As the 12 month moving average median (yeah, that’s a little confusing) market time graph below shows these properties continue to sell lightening fast. Half of them sold in less than 32 days over the last 12 months, though that’s up from 17 days 4 years ago.
Not to confuse things but you can get a little perspective by comparing that to the market times of single family homes in the same area. Notice that it has steadily risen since the end of 2013 and it is now hovering around 80 days.
Meanwhile, investment property inventory levels remain very low as you can see in the graph below (not a moving average this time). We were at a 3.8 month supply at the end of February, which compares to a 5.5 month supply of single family homes.
As I said before there is no really good way to measure what’s going on with investment property values, though we’re sure they’ve been going up since we can see that cap rates have gone down. So I hesitate to show the next graph of average sales prices of 2 – 4 unit buildings in this area. It does NOT reflect the price increase of these properties because in all likelihood it also reflects the fact that the condition of these buildings have been improving over this time period. But it’s interesting nevertheless in that average sales prices are at their highest level of the time period available to me. That simply means that people are pouring a lot of money into this sector, some of it in higher prices paid but also some of it in building improvements.
So, the data seems to support the notion that Chicago’s real estate investment market remains pretty darn hot right now despite the recent rise in interest rates – for now. But eventually I expect that prices will retreat.
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Gary Lucido is the President of Lucid Realty, the Chicago area’s full service discount real estate brokerage. If you want to keep up to date on the Chicago real estate market, get an insider’s view of the seamy underbelly of the real estate industry, or you just think he’s the next Kurt Vonnegut you can Subscribe to Getting Real by Email using the form below. Please be sure to verify your email address when you receive the verification notice.