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What is Market Categorisation and Why It’s More Reliable than Market Cycles

Property markets are influenced by many factors, such as local economy, demographics, the planning system, the construction industry, etc. Therefore, you can hardly find perfect market cycles, let alone predict a market’s trend merely based on its current position in the market cycle. That’s why we prefer describing markets and making purchase decisions based on a more sophisticated system: Market Categorisation.

Image for the article - What is Market Categorisation and Why It’s More Reliable than Market Cycles
What is Market Categorisation and Why It’s More Reliable than Market Cycles

Many say that market cycle is the key to maximum return.

However, in the property investment world, things may not be that simple. In studying and monitoring Australian property market, InvestorKit team finds that market cycle itself is not enough to support your purchase decision.

Property markets are influenced by many factors, such as local economy, demographics, the planning system, the construction industry, etc. Therefore, you can hardly find perfect market cycles, let alone predict a market’s trend merely based on its current position in the market cycle.

That’s why we prefer describing markets and making purchase decisions based on a more sophisticated system: Market Categorisation. In categorising markets, we not only look at a location’s position in its market cycle but, more importantly, examine the local economic activity, demand vs.supply trends, as well as market pressure to estimate its market trends in the next year or so.

Today’s blog is all about market categorisation. We will introduce to you three market categories – early adopter, hotspot and second-wind – where InvestorKit would buy for our clients based on their specific needs.

Early Adopter

What is it?

Early adopters are the markets that have come out of the last slump and are gathering market pressure for growth. The below chart is a brief description of the market conditions and trends (indicator scores: 1 to 5, 5=best): The local economy is getting stronger, leading to increasing housing demand, which is immediately reflected by rental pressure; The pressure in sales market accumulates as well due to the growing demand and limited supply; There is little oversupply risk in the future.

Image of 637ed409cd054c8fc4154f72 1.0%20Early%20adopter%20indicators

Buying in such markets, you may not be enjoying instant high capital growth but can enjoy a relatively low purchase price and will be exposed to the whole growth phase in the coming years. Moreover, as these markets are not hot yet, you’ll have fewer competitors and a higher chance of getting a discount.

Who is it ideal for?

The relatively low price allows healthy or high rental yields, so early adopters are perfect for investors who have lower budgets and require higher cash flow.

An example: Townsville in 2021

Townsville’s house prices started recovering in 2020 after being suppressed for an extended period (below chart).

Image of 63771645698a381770170707 T%20Price

We were confident to call Townsville an early adopter in 2021 because of the following signs:

–      Rising demand relative to supply: Demand (sales volume) had grown to a much-lifted level relative to supply (for-sale listings)compared to pre-2019, increasing market pressure to push prices to grow.

Image of 63771665977e7f88f58198d6 T%20SV

–      Declining sale days on market: The increasing market pressure can be seen in the sale days on market trend. Townsville’s house sale days on market were high pre-2019 and started dropping in 2020. In 2021, the decline speeded up as demand kept rising.

Image of 637716723de13c9ffb186bec T%20DOM

–      Tight rental market and high yield level: At the same time, rental vacancy rate dropped to the lowest level in more than a decade in late 2020 (the chart below shows the vacancy rate trends in postcode 4814 as an example), showing strong demand in the rental market, which would lead to demand rise in sales market later. Rental yield was high (5.62% as of July 2021), more than enough for rental income to cover mortgage repayments, putting no financial pressure on investors and helping them save faster for the next deposit.

Image of 637713ef7bbecf20867f6aa4 4.%20Townsville%20VR

In 2022, as all the indicators are showing high market pressure, Townsville is gradually moving from an early adopter to a…

Hotspot

What is it?

Hotspots are the markets under high pressure and seeing accelerating value growth. You would hear their names repeatedly on media and at BBQ parties. The below chart is a brief description of the market conditions and trends (indicator scores: 1 to 5, 5=best): The local economy is thriving and housing demand has been high for awhile, leading to high pressure in both rental and sales markets; Current supply level is low due to the high demand but there could be a large wave a new supply soon as developers are all attracted to this hot market.

Image of 637ed48324d607f70ccccdae 2.0%20Hotspot%20indicator

Buying in these markets, you could see your equity growing dramatically in just 1-2 years, but you might need a relatively high budget and be prepared for intense competition.

Who is it ideal for?

Hotspots feature tight supply, high demand, and intense competition. They would be ideal for you if you seek high capital growth and are not too strict on your budget, prepared to go for a great opportunity even if it’s a bit pricier than you expected.

An example: Greater Adelaide in 2021

Adelaide’s house price started surging in 2021 (below chart),and it’s become the best performer among all capital cities in 2022, achieving 16.6% median price growth in the 12 months to 1st Nov 2022, while many other capitals are seeing a YoY decline.

Image of 63771682248a903ea06c3c22 A%20Price

We call Adelaide a hotspot in 2021 because of the following signs:

–      High and rising demand relative to supply: In 2021, the demand (sales volume) started surging while supply (for-sale listings) was dropping, creating quite a high market pressure to push prices up significantly.

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–      Declining sale days on market: Adelaide’s house sale days on market were dropping steadily in 2021 because of the reduction in supply and surge in demand.

Image of 637717007f36c03ea9a1ad0c A%20DOM

–      Tight rental market and healthy yield level: Meanwhile, rental vacancy rate kept dropping, indicating higher and higher housing demand, underpinning the fast growth of both rental and sales prices.Rental yield was healthy (4.22% as of July 2021) so investors could enjoy both positive cash flow and robust capital growth.

Image of 6377172714d7dc304320be78 8.%20Ade%20VR

Second-Wind

What is it?

Second-winds are the markets that have gone through a boom in the past 5-10 years and are catching a second wind (eg. Reduced interest rates encouraging property transactions) and becoming a hotspot again. The below chart is a brief description of the market condition and trends (indicator scores: 1 to 5, 5=best): The local economy may not be as active as the previous two types but still attractive, leading to high pressure in rental market; Demand in sales market is growing stimulated by the second wind, leading to lowering supply level and increasing market pressure; Like in hotspots, developers are active here, so there could be a large wave of new supply on its way to relieve market pressure in the future.  

Image of 637ed4ea24d6071123cd4960 3.0%20Second winds%20indicators

These markets offer good short-term value growth (like hotspots), but prices are usually not affordable due to the previous boom.

Who is it ideal for?

Second-winds are likely to be pricy with lower rental yields and limited growth, so they won’t be your first choice if you emphasise positive cash flow or continuously robust capital growth. However, if you have already built a sizeable portfolio (i.e. cash flow and capital growth secured) and are just seeking diversity or great opportunities no matter the price, second-winds would be ideal for you.

An example: Gosford in late 2020

Gosford house prices grew fast from 2014 to 2018, increasing 12% yearly. The market cooled down in 2019 but was revitalised just one year later, stimulated by the historically low interest rate and people’s chase for lifestyle during the pandemic. It achieved another 50% growth in 2 years.

Image of 637717792e49c67cdbc0e75a G%20Price

In late 2020, there were signs indicating that Gosford would be hot again:

–      High demand relative to supply: supply (for-sale listings) started dropping in late 2020 while demand (sales volume) kept surging, showing high market pressure for further growth.

Image of 63771793f721fe5db42e4388 G%20SV

–      Low and lowering sale days on market: Gosford’s sale days on market was halfway bouncing from the bottom when it started dropping steeply in late 2020, reflecting increasing market pressure.

Image of 637717ad2e49c6de68c1696d G%20DOM

–      Tight rental market but moderate yield level: Rental vacancy rate dropped to a crisis level in late 2020 (below chart), showing high housing demand. However, rental yield level (3.25% as of Jul 2020) was higher than many other Greater Sydney sub-markets but still not too friendly to many who are seeking positive cash flow as the sales price was high.

Image of 637717eb0dff9957bc32a800 12.%20Gosford%20VR

In a nutshell, property markets are complex systems with countless internal and external influencers and hardly move in perfect cycles. We buy in a location not simply because it’s in an early stage of a growth cycle / in the fast-growing phase, but because of the combination of a good cycle position and strong influencer trends – This combination is the base of market categorisation.

InvestorKit is a buyer’s agency that constantly monitors and tests data to categorise and re-categorise markets to make sure they best suit clients’ needs. Feel like to know which markets we have now in each category? Talk to us today by clicking here and requesting your 45-min FREE no-obligation consultation!

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