Wednesday, January 20, 2016

Thoughts on the Urbanization Trend in Real Estate

Port of San Francisco
(Port of San Francisco)

"Urbanization trend" is one of the hottest buzz phrases in real estate. It refers to the revitalization taking place in many of America's once ignored downtowns, like Louisville, San Diego, Nashville, and others. Entire investment strategies are being built around this idea and, indeed, it is true that a substantial amount of the new development in this real estate cycle has been focused in downtowns.

What's driving this urbanization trend? Is it a bunch of real estate developers deciding it would be cool to build a bunch of buildings in crappy downtowns? Are they trying to revitalize these cities out of the goodness of their hearts? Of course not. Bernie Sanders has a better chance of becoming president than a real estate developer acting charitably. What's really driving urbanization is simple, people want to live downtown. Also note that when I say "people," I'm not just referring to the younger generations, but also baby-boomers and the 60+ crowd as well.

These urban settlers want the convenience of living near their favorite restaurants, where they work, cool bars, and other amenities. Americans don't want the long commute anymore. For the older urbanizers, they don't have a need for big houses now that their kids are older and want all the convenience that comes with living downtown. The next logical question is, what's causing this shift in behavior?

Certainly there are numerous explanations for the urbanization trend. More cars on the road with a deteriorated infrastructure causing longer commutes vs. 10-20 years ago is one compelling reason (not to mention painfully high gas prices until recently). Cash strapped city governments trying to boost property tax revenue by suddenly becoming friendly with real estate developers is another. There are many other plausible reasons, but the most compelling and obvious reason is...demographics.

What do I mean by demographics? Well, it's actually simple, people aren't getting married as much and when they do it's much older than it has been historically. Additionally, when they do get married they have fewer kids. The other significant demographic trend is baby-boomers are reaching retirement age. As they retire and have their kids leave the house, they don't need a lot of square footage and many prefer to relocate to city centers where they can be close to their favorite amenities.

Think of the implications of young adults delaying marriage and having fewer children. As a married guy with 2 kids, I can tell you there are a few universal desires among growing families:

  1. A growing family wants to be in an area with good schools.
  2. A married couple with kids wants to be in a safe area with little crime.
  3. Kids need space, both inside the house and outside. A family of 6 will want substantially more square footage than a family of 3 or 4.
  4. Kids want to be close to parks.
  5. Kids want to be close to other kids.

Notice that most of these desires / wants are much more easily and affordably satisfied in the suburbs. Suburbs tend to have good schools, be crime free, have bigger houses for sale, have strategically located parks, and have many families living within them. Many cities lack these features. Instead, they offer convenience to amenities that single / kid-free couples would care more about. It then makes sense that people delaying marriage and having less kids would make cities more desirable.

So, the question then becomes, are these demographic trends here to stay, or are they anomalies and America will revert to its historical marriage and child birth rates? My rather uneducated belief is that it is not an anomaly--these demographic trends are here to stay. The primary piece of information driving my opinion is the simple fact that birth rates and household formation are closely tied to the religiosity of a nation. As America becomes increasingly secular, it would indicate that birth rates and household formation will stay right where they are or decrease further, assuming America becomes increasingly secular. Only time will tell.

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