Chapter 1 Nature of Real Estate Real Estate Markets Real estate is the single largest component of wealth in our society It represents of the world s total economic wealth Real Estate Some Basic Definitions o Real estate includes our homes places of work educations and recreation it also includes a wide range of business and institutional activities associated with the development purchase use and sale of lands and buildings Anything that can be owned or possessed o Property Tangible Assets Intangible Assets Physical things i e car clothing land and buildings Nonphysical things including contractual rights mortgage patents Real estate is used in 3 fundamental ways 1 Most commonly used to identify tangible assets of land and buildings 2 To denote the bundle of rights associated with ownership and use of the physical assets 3 May be used when referring to the industry or business activities related to the acquisition operation and disposition of the physical assets Real Estate A Tangible Asset Real Estate When viewed as tangible defined as the land and its permanent improvements Include any fixed structures such as buildings fences walls Include components necessary to make land suitable for building o Improvements ON Land o Improvements TO Land construction or other uses Real estate includes not only the surface of Earth but also areas above and below the surface Land Includes simply the Earth s parcels and may also include the improvements to the land Raw Land A larger area that doesn t include any improvements Tangible assets include both real property and personal property o Real Property o Personal Property Rights associated with land ownership and all its permanent attachments Things that are moveable and not permanently affixed to the land Real Estate A Bundle of Rights Real estate is also viewed as a bundle of intangible rights associated with ownership and use of the site and its improvements These rights include 1 Right of exclusive possession 2 Right of use or enjoyment 3 Right of disposition Real Estate An Industry or Profession Real estate is also used to refer to the industry activities associated with evaluating producing acquiring managing and selling real property assets Professions vary widely and include o Real estate brokerage o Appraisal and consultant services o Construction o Mortgage finance o Government activities o Real estate investment Real Estate and the Economy o Real estate generates over 28 of the U S GDP o It creates jobs for 9 million Americans o Source of 70 of local government revenues o Housing sector alone approaches 20 of GDP Land Use in the U S o U S represents 6 of Earth s land area 2 3 billion acres o Acre 43 560 sq ft or 209 ft sq There are 640 acres in one square mile o 48 states comprise 1 9 billion acres and 71 is nonfederal rural land uses o Developed land represents 6 of land in the continental U S Developed land consists of residential industrial commercial and institutional use Real Estate U S Wealth o Total market value of real estate is 25 6 trillion o Real estate is the single largest asset class in the U S Real Estate Market Participants Real estate values derive from the interaction of 3 different sectors 1 The real world user markets 2 The financial world or capital markets 3 Government User Markets o Characterized by competition among users for physical locations and space o Market is highly segmented o Primary market participants are potential occupants o Demand for this real estate comes from the need these individuals firms and institutions have for convenient access to other locations as well as for shelter to accommodate activities o About 2 3 of U S households own their home Capital Markets o Serve to allocate financial resources among households and firms requiring funds o Participants invest in stock bonds real estate and other opportunities with the expectation of return on o Real estate assets compete with other assets for investor dollars o Capital markets can be divided into 2 categories their investment 1 Debt interests 2 Equity interests Participants that own real estate o Equity o Expect to receive a return on their investment through collection of rent and price appreciation o Private participants include individuals firms and institutions directly held o Public participants include investors in publicly traded real estate companies and equity real estate investment trusts REITS Participants that lend o Debt o Hold claims to the interest on borrowed funds secured by individuals and businesses o Private participants include commercial banks insurance companies and private lenders o Public participants include investors in mortgage backed securities and REITS Private Capital Markets o Individual assets are bought and sold in a transaction o Assets trade infrequently o Absence of a centralized market o Less liquid than public markets o Higher transaction costs Public Capital Markets o Small homogenous shares of ownership in assets are traded in public exchanges o Many buyers and sellers o Price quotes available to everyone o Characterized by high liquidity and information efficiency Role of Government Local government has the largest influence on real estate o Affects supply and cost through land use regulations fees and building codes o Affects rental rates through property taxes o Affects supply and quality through road provisions utilities etc State government has the least effect on real estate values o Constrain entry to real estate occupations through licensing laws o Statewide building codes affect building design and cost o States typically set the basic framework for local government and land use controls National government influences real estate in many ways o Income tax policy greatly affects real estate value o Housing subsidy programs affect the level and type of construction o Environmental laws Interaction of Three Value Determining Sectors o In user markets households and firms compete for currently available supply of locations o This competition determines levels of rental income and determines reliability of income o Capital markets provide the financial resources necessary for the development and acquisition of real estate assets o In the interaction between user and capital markets the expected stream of rental incoe is capitalized into value through discounting o Discounting Process of converting expected future cash flows into present value Incorporates the opportunity cost of waiting