Real Estate Market Research 101 [What Really Matters]

Research databases like CoStar and Yardi Matrix come with a lot of helpful market data, but these can be extremely expensive for individual investors (and even small companies).

But even if you don’t have access to these, a lot of big-name companies have in-house research teams that publish free quarterly and annual market reports, which include a lot of really helpful information that can help an investor understand what’s going on in a market.

But since these reports can include so much information (and differ a lot from company to company), this post walks through some of the most important metrics to focus on when researching a real estate market.

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Metric #1: Incoming Supply (Recently Delivered)

The first thing you’ll want to zoom in on when researching a real estate market can have a huge effect on occupancy levels, rents, and even values long-term, and this is incoming supply.

In a market research report, the first piece of incoming supply data that you’ll want to zoom in on is new supply that has recently been delivered in the market.

This typically involves looking at the total square footage of commercial space or the total number of multifamily units that were delivered in the last quarter or over the last 12 months, and then comparing that to historical figures as far back as possible.

Why Raw Numbers Don’t Tell the Full Story

As you start to dig into these reports, you’ll realize that by themselves, these numbers don’t necessarily mean much, since it’s hard to tell what something like 200,000 square feet of office space being delivered actually means for a market.

This is why one of the most helpful metrics to look at alongside this is new supply as a percentage of the existing inventory in the market, which can give you a much clearer idea of the impact this new supply might have.

A Real-World Example

Let’s say a market led the nation in total multifamily deliveries at 30,000 units over the last 12 months, which sounds like a lot. But if those 30,000 units only represented 1% of the existing inventory in the city, that market would have very likely seen significant rent growth despite the uptick in new supply.

Metric #2: Construction Pipeline

In addition to the new supply that’s already been delivered, another metric to look for that’s also going to have an impact is the amount of new product that’s currently under construction and will likely be delivered in the next 12-24 months.

Even if you’re seeing strong occupancy levels and rent growth today, if the construction pipeline is significant and deliveries are expected to grow in the near future, this can often lead to an uptick in vacancy, and rent growth flattening out (or even turning negative).

Metric #3: Net Absorption

With that all said, an increase in new supply doesn’t necessarily indicate poor future market performance, which is why it’s also important to track a market’s projected demand in relation to that supply.

And if we want to look at a current snapshot of this, one of the most helpful metrics to watch is a market’s net absorption, which measures the change in occupied space over a specified period of time.

When this is positive, this indicates that more space was leased or occupied than was vacated or delivered in that period. This is a good indicator that demand is keeping up with (or potentially exceeding) new supply.

Negative net absorption indicates that less space was leased than vacated or delivered, which can indicate that demand isn’t as strong as new supply growth in the market.

Metric #4: Vacancy Rates and Leasing Activity

Most market reports will also include information on current vacancy rates, historical vacancy rates, and recent commercial leasing activity, all of which can give you a good sense of tenant demand for space compared to historical figures.

Big companies signing big leases on office space or warehouse space, or big retailers signing big leases within shopping centers, is often a really good indicator that demand is strong. When big companies make a bet on a market, this often leads to other companies following suit quickly.

Some research reports will also track sublease availability, which can give you a really good sense of the number of tenants in an area that are looking to get out of their existing leases. The higher this number is, the less demand for space there tends to be.

Metric #5: Job Growth and Population Trends

From a demand driver perspective, one of the biggest indicators of continued expansion in a market is job growth. Many research reports will also include a breakdown of things that could directly impact job growth in an area, including:

• Manufacturing levels
• Retail sales
• Population growth in the last 3-12 months

Metric #6: Capital Markets Activity (Investor Demand)

If the supply and demand story is compelling when researching a market, you’ll also want to look into capital markets activity to get an idea of investor demand.

Many market research reports will track:

• Average sale prices per unit or per square foot (which can give you a sense of where pricing is trending)
• Average cap rate data (which is often an indicator of how much growth the market is pricing in)

Understanding Cap Rates

In general, investors are willing to accept lower cap rates (or going-in NOI yields) in markets where they believe NOI values will grow significantly over their investment period. Alternatively, investors will typically look for higher cap rates in markets where they believe NOI will only grow slightly or even stay flat for the foreseeable future.

Notable Sales Activity

These reports will also sometimes include notable sales activity, which can give you an idea of interest in the market from major institutions. Since institutional capital flowing into an area usually means there’s a very strong buyer pool for properties in that area, this can also mean that your investments in the market could be more liquid when you’re ultimately ready to sell.

This is especially important when transaction activity is low, when investors typically flock to larger gateway metros and shy away from deals located in secondary and tertiary markets.

This means that if you’re not seeing much transaction activity in a metro or interest from investors overall, you could end up getting stuck with a property for longer than you’d like, and you also risk having a limited number of potential buyers that could get to your target pricing.

Putting It All Together

Every report is going to be a little bit different, so it’s worth looking through the research of multiple different firms to fill in the gaps that might not be tracked by one company or another.

Ultimately, what you’re looking for in these reports is:

• Relatively low recent and incoming supply figures (when compared to the existing inventory in the market)
• Significant positive demand indicators (including positive net absorption, low sublease availability rates, a few notable lease transactions, and positive job growth indicators overall)
• Ideally, capital markets activity where big-name investors are making a bet on the metro, and cap rates and values are trending in a positive direction

How To Learn More About Real Estate Investment Analysis

If you want to learn more about the real estate investment analysis process and how to use market data to underwrite deals, make sure to check out our all-in-one membership training platform, Break Into CRE Academy.

A membership to the Academy will give you instant access to over 120 hours of video training on real estate financial modeling and analysis, you’ll get access to hundreds of practice Excel interview exam questions, sample acquisition case studies, and you’ll also get access to the Break Into CRE Analyst Certification Exam, which covers topics like real estate pro forma and development modeling, commercial real estate lease modeling, equity waterfall modeling, and many other real estate financial analysis concepts that will help you prove to employers that you have what it takes to tackle the responsibilities of an analyst or associate at a top real estate firm.