Investors in the commercial real estate market are often interested in how residential prices are doing. In this article, we'll look at how the residential and office markets correlate, and what investors can do to take advantage of this relationship.
Understanding the Office and Residential Real Estate Markets
There is a strong correlation between the office and residential real estate markets. When the office market is strong, the demand for housing is also strong. This is because people are moving to areas where there are good job prospects. The reverse is also true – when the office market is weak, the demand for housing is also weak.
This correlation exists because people generally want to live close to where they work. When there are lots of jobs available in an area, people will move to that area to be closer to those jobs. This increases the demand for housing in that area, and prices will rise as a result. Conversely, when the office market is weak, people will move out of that area in search of better job prospects elsewhere. This decreases the demand for housing in that area, and prices will fall as a result.
Investors who understand this correlation can use it to their advantage. For example, if they believe that an area’s office market is about to strengthen, they can buy residential property in that area before prices start to rise. Similarly, if they believe that an area’s office market is about to weaken, they can sell their residential property in that area before prices start to fall. It does not necessarily have to be an investment in residential properties only. By observing the trend of residential vacancies and growth, one can also ascertain how the office real estate is going to perform in the immediate future and if the trend is going to continue further.
Overall, the office and residential real estate markets are closely linked. Understanding this link can help investors make better decisions about when to buy or sell property.
The Market Is Changing
The office real estate market is constantly changing, and as a result, the correlation between the residential and office markets is also changing. For example, in the past, the two markets were very closely correlated, but today variables can cause both markets to seem a bit indifferent of each other. However, the relationship still exists. This is because the office market is now more globalized, with companies looking for locations that offer the best talent, amenities, and cost-efficiency. As a result, many cities that were previously popular office markets might be seeing a temporary decline in demand.
This changing market has had a major impact on the residential real estate market as well. In order to attract and retain workers in these newly popular office markets, developers are building more apartments and condos offering high-end amenities, while being affordable and with easy access to public transportation. This can cause changes across other markets as well, if people decide to move from one area to another considering better working opportunities and more affordable housing options.
It's important to understand these changes in order to make informed investment decisions in both the residential and office markets. Those who understand how these markets are shifting can take advantage of opportunities in both sectors.
Which Areas Are We Talking About?
We're talking about the areas with the highest concentrations of employment in the office-using sectors: professional and business services, finance and insurance, information technology, and real estate. These are also states with large populations and high rates of economic growth. They include Ahmedabad, Bengaluru, Chennai, Hyderabad, Kolkata, Mumbai, Delhi-NCR, and Pune.
In these places, the office market is driven by demand from businesses in the professional and business services sector, which includes a wide range of industries such as retail, manufacturing, information technology services, and engineering.
Let us take a brief look at the cities and understand the correlation between office real estate and residential real estate.
In terms of residential real estate, let's take a look at the highest and lowest prices across the major cities. In Mumbai, the price change in INR/sqft has been around 6% over a 6-month period, while Bengaluru leads the list with a 9% change in price over a year. Likewise, in the residential real estate sector, Ahmedabad has seen the lowest price change ~3% across a 6-month and 12-month period.
Coming to office real estate, Bengaluru has seen a 13% increase in the rentals per square feet across a 12-month period, and also an 11% increase across a 6-month period. On the lower end, Ahmedabad, Chennai, and Kolkata have seen the lowest increase in rent across a 12-month period, at zero. While Ahmedabad and Chennai markets showed no change across a 6-month period, the Delhi-NCR office real estate saw changes going into the negative spectrum at -1%.
Can Real Estate Markets be Correlated?
The best way to understand this would be through graphical information, and we have sourced this from Knight Frank. Let us take a deeper dive into each city and compare the information about office real estate and residential real estate.
What Affects the Price Differences?
The price of a home or office is based on many factors including location, quality, size, and availability. The most important factor in determining the price of a home or office is the location. The quality of a home or office also plays an important role in its price. Homes and offices that are located in prime areas and have been well-maintained tend to be more expensive than those located in less desirable areas or that are in need of repair. Size is another important factor when considering the price of a home or office. Larger homes and offices usually cost more than smaller ones. The availability of homes and offices also affects prices. When there is high demand for housing or office space, prices tend to be higher than when there is an abundance of available space.
Apart from all this, one also needs to pay attention to the economy and preference of businesses to set up office locations. Based on the business type, office locations can vary a lot. Bengaluru has been a consistent performer in the office real estate segment, with a significant increase in the rental rates over half-yearly and yearly periods. Now, Bengaluru being at a crossroads between Chennai, Hyderabad, and Mumbai is a preferred location for many businesses, while NCR, even though being the national capital, is less preferred because of the distance from major performing cities.
If one looks at the charts carefully, Kolkata has a great market considering residential real estate, but it does not fare too well in the office real estate market. Affordable housing does not always mean that people will be attracted to the city for job opportunities. Likewise, Mumbai has seen good growth in the residential sector, but its office market has taken quite a beating comparatively. Infrastructure plays a major role in deciding if people are ready to move to a location for office searches. If the time taken to commute to the office and back exceeds the average by a lot, people are sceptical about taking up new space in such cities. Comparatively, Hyderabad, Chennai, and Bengaluru have seen good growth on both the residential as well as the official front.
How Can This Information Help You Make Better Investments?
The office real estate market is highly correlated with the residential real estate market. When the economy is strong and people are confident in their job prospects, they are more likely to buy or rent homes. This increased demand for housing drives up prices and encourages new construction. The same is true for office space. When businesses are expanding and hiring, they need more space to house their employees. This increased demand drives up rents and prices for office buildings.
The reverse is also true. When the economy weakens and people lose their jobs, they are less likely to buy or rent homes. This decreased demand for housing drives down prices and discourages new construction. The same is true for office space. When businesses are cutting back or going out of business, they need less space and can often sublet the space they have. This decreased demand drives down rents and prices for office buildings.
By understanding the correlation between the residential and office real estate markets, you can make better investment decisions. If you believe that the economy will strengthen, you may want to invest in residential or office properties. If you believe that the economy will weaken, you may want to avoid these investments or be prepared to hold them for a longer period of time until the market recovers.
Now, for a retail investor, doing all this research can be quite a chore. Which is why Strata's method of investing in commercial real estate via fractional ownership is a great way for retail investors to get into commercial real estate investment.