Now, let's examine each stage of the cycle, what triggers the shift to the next stage, and what different types of investors are doing and thinking at each point:
Stage #1:
First Expansion / Recovery Stage
We begin when prices hit bottom at the end of a recession, and the recovery phase is starting.
Prices have fallen enough to attract the boldest investors who seek high yields resulting from falling prices while rents remain steady. These investors, known as the "smart money", are contrarian investors who recognize the opportunity to buy assets when confidence is low and the investment case is unproven.
Amateur investors are usually absent from the market at this time, missing out on the favorable buying conditions.
As the recovery phase progresses, more buyers gain confidence and enter the market, gradually pushing prices upward.
Look for large companies and pension funds buying distressed portfolios, indicating a solidifying recovery.
Growth typically starts in economically powerful city centers and expands outward.
Stage #2:
Mid-Cycle Wobble / Slowdown
After a few years of slow and steady growth and recovery from the crash, prices are now significantly higher than at the bottom of the cycle a few years before.
We are at this point in the middle of the cycle where the early investors and those who got in around the bottom, take some profit. That causes a market slowdown or a mild fall, which however will reveal to be temporary, despite what the media or public opinion might think.
Stage #3:
Second Expansion / Acceleration Stage
After the slight dip in the middle of the cycle as early investors profit, the recovery phase resumes and prices start gradually rising again.
After a while, it becomes evident that prices are now increasing steadily, and banks regain confidence and start lending again.
This is the start of an acceleration in property prices growth, which can become explosive as we approach the peak.
Major construction projects commence, visible through the presence of cranes on the skyline.
Property prices begin to rise significantly faster than wages, attracting media attention.
People start speculating, upgrading their homes, or using increased mortgage loans for vacations and cars. Banks facilitate this by easing lending criteria.
As prices continue to climb, group psychology takes over, driving further buying and pushing prices higher and higher.
Smart investors quietly sell to secure profits while the mania persists.
Stage #4:
Winner's Curse
The final years of the explosive phase, labelled the "winner's curse" by Fred Harrison, see prices and mania peak.
However, this phase becomes a curse because the next recession is imminent, and the property bought at the peak will soon decrease in value.
Warning signs appear if you know where to look. Overblown building projects and justifications for perpetually high prices signal the nearing top.
Stage #5:
Cyclical Peak & Crash
Eventually, reality sets in, and the recession phase approaches.
Confidence, driven by sentiment rather than fundamentals, can quickly vanish, taking the market down with it. Prices plummet, causing bankruptcies and forced selling, which further depresses prices.
The exact timing of this downturn is uncertain, but the media will fuel panic with negative stories.
The recession phase may seem prolonged, but it eventually ends.
Smart investors become tempted to re-enter the market, and the cycle begins anew.
