Welcome back, friends! Today, we will start a two-part series exploring the basic forms of appreciation in real estate. We'll start with a market appreciation or natural appreciation, using real-life examples from the Greater Toronto Area to enrich our understanding of this topic.
Market appreciation refers to the organic growth a real estate asset undergoes over time, influenced purely by market forces. Let's examine the factors that impact the growth of an asset:
Inflation
Inflation is a primary driver of market appreciation in real estate. As the cost of services, goods, materials, and labour rises, so does the value of real estate assets. They become costlier to rebuild over time. This natural hedge against inflation makes real estate an excellent investment vehicle. As the perceived value of the asset is bound to rise with inflation dynamics. This reason alone make Real Estate a great investment vehicle as it provides an inbuilt inflation hedge.
Rental Rates
With the advent of time and inflation, the purchasing power of money decreases with time. The Rental rates increase and they are a second big reason which drives up the value of a Real Estate Asset. For an investor along with the monthly appreciation which happens in the asset due to inflation, they get to benefit from the rental payments to pay up their mortgage commitments. The principal repayment part in the mortgage increases their equity in the asset month over month. The increase in the rental prices, definitely helps the property appreciate.
Economic Growth
In good and progressing economies with the rise in inflation, there is also movement in terms of economic growth. New jobs and industry sectors are established pushing the economies which indirectly makes the Real Estate assets appreciate with the economic stimulus. More jobs mean higher income levels, which bolsters consumer confidence and ultimately leads to growth in the Real Estate sector.
Infrastructure Development
Properties in metro areas or regions anticipating significant infrastructure investment typically see greater market appreciation. Easy access to highways and public transit can significantly influence an area's growth compared to regions with less developed infrastructure. After spending almost a decade in real estate, I can confirm that 'location' is indeed critical to natural growth.
Population Growth
In a place like the Greater Toronto Area, there is a lot of population growth in the form of immigration which takes place in Canada. And GTA being the biggest job market in Canada, which makes a lot of net new people choose to live in such regions. This population growth is very simply put directly proportional to market appreciation. Another reason Location plays a key role is that population growth will be centred around in-demand locations where job opportunities and chances of growth for a newcomer are abundant.
Supply Constraints
Supply constraints are another reason price growth happens in Real Estate. If you observe major municipalities like Mississauga, Burlington, Richmond Hill and Brampton, their landscape doesn’t allow for more sub-divisions as already they are saturated with constructions to the boundary of these towns. When the land is saturated, and the market forces keep the area in demand. The progression of time makes the prices increase due to this saturation in the land development; as there is limited supply of new development.
Government Policies and Interest Rates
Any government or municipality should be instrumental to make it easier for first-time home buyers and investors in form of tax breaks and incentives. These policies help sustain the buy/sell of the assets and increase their demand, which pushes the appreciation. Schemes like First-time home buyer RRSP Advantage allow prospective homeowners to leverage interest-free money from their RRSP savings. There are couple of other policies like the Land Transfer Tax Credit on the first home for $4,000, or the First time home buyer tax credit. All of these policies help flourish and promote home ownership.
Federal bank's interest rate policy changes are another major factor. They can go either way, as you would have noticed the historically lower interest rates in the Covid-times pushed the prices way above, and then the tightening of borrowing rates in 2022/2023 also brought them down. The fine balance of interest rate policy changes and the market prices continue. In the short term, they are inversely proportional. However, in the longer term with the above other reasons we laid down, the inflationary pressures, drive up the asset prices in a growing economy.
Real World Case-Study
Let us now consider an example where we can understand how natural appreciation can come into play. For this case study, I have chosen detached 2-storey single garage dwellings in couple of municipalities across GTA that got sold in June of 2010. The next step is to determine their median sold price and then look at the median sold price for similar categories of properties in June of 2023. I have chosen this 13-year duration as it covers the highs/lows we observed in the 2017 market and similar occurrences we observed in the first quarter of 2022.
This tabulation highlights the power of Market Appreciation in the Greater Toronto Area, just by virtue of the growing population base here in the GTA, booming economic considerations in the last 13 years overall, and sustained employment opportunities, all these have a combined reflection on the market prices.
Based on the data we can safely say that GTA had almost ~200% of natural appreciation due to these factors and after surviving two market downturns, and this is all organic growth and ‘market appreciation’ in action. In the next episode I will continue our discussion to the second type of appreciation which is ‘Forced Appreciation’ the factors involved there and how it takes place in Real Estate. It would be an interesting one and will completion our discussion on the topic of appreciation.
Wish you all the very best! Reach out to our dedicated team at Elixir for any queries you have in Real Estate, and we will do our best to help.
Mudit Mehta
Broker of Record
ELIXIR REAL ESTATE INC.
Off: 416-816-6001 | [email protected]
