Redevelopment in Chicago’s formerly troubled and now gentrifying West Loop

Part 2 – “Once Starbucks enters the neighborhood, it’s already too late.”

By Robert Vallera CCIM

It was perhaps a decade ago when I read the above quote. I’ve long forgotten where I encountered it, but do recall that the property renovator being interviewed worked in Chicago.

• Be sure to differentiate between lagging and leading indicators of neighborhood transition.
• Yelp reviews can contain clues about the income level of a neighborhood’s customers.
• Look to other property sectors for harbingers of neighborhood transition.

It’s Really Timing, Timing and Timing

In Part 1 of this two-part series, we discussed how some neighborhoods can gentrify even within cities such as Chicago where the overall population is stagnant or declining. The most recognized rule in real estate investing is that the success of a venture is dependent upon three factors: location, location, and location. I’ll now propose a supplemental rule. The rate of return on your investment is dependent upon three other factors: timing, timing and timing.

Once it’s obvious that a neighborhood has begun to gentrify, buy-and-hold investors, renovators and developers will need to pay a premium to acquire properties. You don’t want to be too late to the game, as the pricing premium can become a major obstacle to the cost-effective acquisition of a viable property. However, if you enter a neighborhood too early, you might not obtain the rents or sales price required to generate a return on your investment capital sufficient to justify the considerable risk associated with these ventures. Even worse, gentrification patterns frequently reverse during recessionary market corrections. These reversals frequently wallop investors with the double-whammy of lower rents and higher operating expenses.

What Comes First, The Hipster Or The Brewpub?

So, how do you anticipate the optimal time to enter a blighted neighborhood? There are a wide variety of clues, but it’s important to differentiate leading indicators from lagging indicators. Government statistics, such as census income data, are lagging indicators. In the opinion of the property renovator quoted above, the arrival of Starbucks is a lagging indicator. However, like the question about the chicken or the egg, there doesn’t seem to be a good consensus as to whether the presence of urban amenities such as cafes and brewpubs attract upscale residents into urban neighborhoods or closely follow in their footsteps.

The question about what comes first, in our case, the brewpub or the hipster, has attracted significant attention during this current real estate market cycle. The interest has now moved beyond the real estate industry. A team of Harvard economists, the renown Edward Glaeser along with Michael Luca, and Hyunjin Kim found that Yelp reviews can contain clues about the emergence of gentrifying forces within a neighborhood. In addition to cafes and bars, they also noted the opening of new grocery stores as evidence of gentrification.

Three sociologists from City University of New York (CUNY), Sharon Zukin,  Scarlett Lindeman and Laurie Hurson cited restaurant reviews in Yelp, concluding that, “Intentionally or not, Yelp restaurant reviewers may encourage, confirm, or even accelerate processes of gentrification by signaling that a locality is good for people who share their tastes.”

Is It A Signal, Or Is It Noise?

Decades of experience as an early urban pioneer in San Diego’s Uptown and Mid-City neighborhoods have been instrumental in the formulation of my own set of indicators. One such indicator involved the low-density pockets of early 20th Century bungalows still contained in these neighborhoods. Close observation of the level of exterior maintenance and upgrading of those single-family homes proved to be one accurate harbinger of the revitalization of the multi-family and commercial properties in these once-struggling communities. Fortunately for my clients and myself, we got there well-ahead of Starbucks.

However, just as a bull market on Wall Street can lift the stock of a poorly performing company, a real estate boom frequently improves most neighborhoods within a city. This can create some of the outward appearance of neighborhood resurgence in an area that lacks sufficient economic drivers for sustainable improvement once the boom subsides.

Most importantly, there is no substitute for intimate neighborhood level observations over time. A short period of observation can be hazardous, as you might lack sufficient reference points to detect the true rate and direction of neighborhood change. Without a history of firsthand observations, your next-best option is the guidance of a trusted advisor who knows the territory and has the sophistication and training necessary to discern and interpret the valid signals as they emerge.