Chapter 5: Location Real Estate Principles: A Value Approach Ling and Archer

Chapter 5: Location
Real Estate Principles: A Value Approach
Ling and Archer
Outline
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Market needs and timing
The life of a city
The shape of a city
Location patterns
Sprawling
Market needs and timing
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The textbook authors state that “many developers
have learned that …… if the market they had
counted on is not there when their projects are
completed, it is beyond their power to create it.”
Implications: (1) understanding market needs is
important, and (2) if needs vary over time, timing is
important.
To understanding market needs, one needs to
study urban economics (this chapter).
Ways to controlling risk, if so
desired
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You many want to avoid RE investments
that have a high market risk, e.g., land
development where the end user is not
already locked in.
Invest in a city with greater diversity of
economic activities and greater capacity to
withstand the downturn of one particular
industry in that city.
Diversify RE investments across geographic
areas and property types.
America's Most Miserable Cities,
2011
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California's troubles helped it land eight of
the 20 spots with Stockton ranking first for
the second time in three years.
The median price is forecast to be $142,000
this year, a decline of 67% from 2005.
Stockton's violent crime and unemployment
rates also rank among the 10 worst in the
country.
Source: Forbes.
City: why live close?
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Why people tend to live together to form a
city?
Reason: the demand for proximity; access
(i.e., location) to economic activities, such
as production and exchange.
If one lives far away from a city, this person
needs to travel. Traveling is costly and time
consuming, which is typically not optimal.
The location of a city
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The intersections of different modes of
transportation. Example: NYC (Hudson
River transit intersected with the
Atlantic Ocean), London, Shanghai,
etc.
Mining and resource extraction.
Example: Fairbanks, AK (gold and oil).
High quality of living. Example:
Sedona, AZ.
The growth of a city
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The study on the growth of a city is
approached from two aspects: (1) the
demand side, and (2) the supply side.
The demand side
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For the demand side, we ask the question of
what the external world wants from the city
(external demand).
External demand is related to the notion of
economic base.
The economic base is the set of economic
activities that a city provides for the world
beyond its boundaries. Thus, economic
base is also called export base.
Stronger economic bases are associated
with urban growth and higher RE values.
Location quotient
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One indicator of a community’s economic base is
called a location quotient: the ratio between the
percentage of employees in a certain type of work
or job classification in a community and the
percentage of employees in that same type of work
or job classification nationally.
If the ratio exceeds 1, it indicates that the activity is
a base economic activity.
U.S. Census provides data for the calculation of
location quotients: http://www.census.gov.
Multiplier
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Different cities have different economic
(export) bases. Some types of economic
bases have stronger positive impacts on
local developments, i.e., higher economic
base multipliers, than the others.
The economic base multiplier is higher if the
cash flow brought by export activity
circulates and re-spends within the
community more frequently and for a longer
time period.
An example of higher multiplier
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Many cities promote leisure activities and tourism.
This economic base has a high multiplier. A large
share of cash flows brought into a community
through tourism goes to food and hospitality
services that must be locally produced (local jobs).
The cash flows earned by local labor tend to be respent through grocery shopping, rent, etc., within
the community for a long period of time.
See what happened to the median housing prices in
Las Vegas from 2002 ($147K) – 2006 ($318K).
The supply side
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For the supply side, we ask the question of
what a city can offer to the world.
The usual list of offers: (1) skilled labor, (2)
universities, (3) quality of life, (3) local
government (tax) support and leadership,
(4) industry economics of scale, e.g., Silicon
Valley, (5) agglomeration economics (big
enough?): the emergence of specialized
resources, e.g., shipping terminals and
specialized financial services (example:
NYC and LA).
A model for the shape of a city
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The bid-rent model assumes that everyone
travels to the central business district (CBD)
to work.
Because traveling is costly, one would
prefer living at a locality that is near the
CBD. That is, there is stronger demand and
bidding for a locality near the CBD. This
stronger demand leads to a higher rent, and
thus a higher house value and price.
The bid-rent curve is also called rent
gradient.
An example, I
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Hourly wage rate is $20.
Round-trip travel to CBD is at 20 mph.
Households rent lots for motor homes.
Workers make 20 round-trips per
month to CBD.
An example, II
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What is the time cost of travel? At 20 mph,
with a wage rate of $20 per hour, $1.00 per
mile.
How much is saved per month by living 1
mile closer? 20 round-trips x 2 x $1 = $40.
Conclusion: workers will bid $40 per month
to live 1 mile closer to CBD.
Suppose that the farthest household from
CBD commutes 3 miles.
The bid-rent curve
200
180
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Bid-Rent ($)
140
120
100
80
60
40
20
0
0
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1
1.5
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Miles from CBD
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4.5
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Implications, I
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A single-center city: the closer to the CBD,
the higher the property value.
The cost of traveling is individual-specific.
Wealthy professionals have a higher cost of
opportunity and thus a higher cost of
traveling. The model at its simplest form
predicts that they tend to live close to the
CBD.
Implication: wealthy people tend to get good
location, and there is an economic
separation between rich households and
poor households.
Implications, II
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What if the size of the city is huge?
Say the farthest household from CBD
commutes 30 miles. What is the rent
at CBD?
Jing-jin-ji.
https://www.youtube.com/watch?v=Yjo
J8Tr6o1A
Jing-jin-ji
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A super megacity with a 130 million
population (current population is about
105 million).
Capital investment is about 70% of the
GDP.
The size of the Jingjinji is about the
size of the New England.
Limitation
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The bid-rent model is intuitive, but not
complete. The reason for this is that the
model considers only one dimension of
linkage, i.e., access need (the single-person
commute).
The reality is that households (and
businesses) have multiple needs of access:
to (good) schools, to friends, to privacy, to
shopping, etc. All of these linkages enter
into the household’s bid for a location.
Location dynamics
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These linkages change over time, therefore the
value of a location changes over time.
Forces: (1) advances in transportation (cars and
light rails), (2) technological changes (airconditioning and electronic lighting in 1930s
introduced large retailing facilities outside the CBD),
and (3) social movements (the smart growth
movement has made some old CBDs livable again).
Question: If MA government builds a direct highspeed light rail from Marlborough to Boston
downtown, what would happen to the RE prices in
Marlborough?
Implication: must take the dynamics into
consideration.
San Diego experience
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46% premiums for condominiums and
17% for single-family housing near
Coaster commuter rail stations in the
north county.
91% premiums for parcels near
downtown Coaster stations and 72%
premiums for parcels near trolley
stations in the Mission Valley.
Source: Realtor.org
Multi-CBDs
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It is apparent that by 1945 the form of a city
departs from a single-center city.
Harris and Ullman (1945, Annals, American
Academy of Political and Social Science,
242, pp. 7-17) coined the term “multinuclei
city.”
The motor vehicle, combined with new
technologies of production, had propelled
urban activities away from the single CBD.
The failure of W.T. Grant.
Use-specific
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RE investment is about location,
location, and location.
The tricky part is that a good location
for one particular type of land use
(shopping mall) may be a weak
location for another type of land use
(industrial park).
Location (and value) is use-specific.
Central place location
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Central place location: a location pattern where
similar economic entities, e.g., regional malls, tend
to disperse evenly over the market region.
These entities tend to involve in convenience
activities. Example: regional malls, bakeries,
supermarkets, coffee boutiques, etc.
Implication: A new suburban city with enough
population may have a central locality that is ideal
for a convenience good or service provider, e.g.,
regional shopping mall or a Barnes and Noble.
Central place pattern
Maximum
Market Area
Clustering location
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Clustering location: this is where similar
economic entities tend to cluster due to the
following 2 reasons:
(1) Comparison activities: customers prefer
comparison shopping and a large selection.
Example: apparel stores within a shopping
mall or club districts.
(2) Industry economics of scale. By
clustering, firms engaged in the same kind
of activity may create mutual efficiencies.
Example: high-tech industrial parks.
Location, what location?
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Suppose that you are thinking about
opening a laundry store. What kind of
location will be ideal?
Sustainability of city growth
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The size of the city has implications on
the sustainability and efficiency of the
city: (1) traffic (i.e., less efficiency), (2)
pollution, (3) income inequality, (4)
public safety (e.g., crime, terrorist
attacks) (5) quality of living (e.g.,
education, parks, etc.).
Megacity: >10 million population.
Traffic: ring roads and
sprawling
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When a city has a single CBD, the growth of the city
is often accompanied by the increase in ring roads.
Beijing: 1st ring: 1920s, 2nd ring: 1980s, 3rd ring:
1990s, 4th ring: 2000s, 5th ring: 2000s, 6th ring:
2010s, 7th ring: planning.
Ring roads provide a bypass and was thought to be
a good way to reduce city traffic.
Reality: more ring roads, more development along
ring roads, more residents, more needs for road
use, more traffic.
5th ring is about 6-8 miles from the CBD. The
average commute time is 97 minutes each way.
Group Assignment
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Conduct a “walk-the-site” research
according to Study Questions #3, p. 160 (#3,
p. 177 if you use 2nd edition of Ling and
Archer).
The report is due in a week.