For centuries, real estate has been viewed as a smart route to amassing wealth. In today's slowly-improving real estate market, savvy investors are looking for the best place to park their money in preparation for the next boom. According to University of Chicago Booth School of Business Professors Veronica Guerrieri and Erik Hurst, the most promising urban real estate can be found in run-down neighborhoods that border tony, upper-class areas.
In their study, "Edogenous Gentrification and Housing Prices Dynamics," published last year in the Journal of Public Economics, Guerrieri and Hurst, along with Daniel Hartley of the Federal Reserve Bank of Cleveland, explain that when they began their research, they assumed that during an economic boom the fanciest, most desirable neighborhoods would have the largest gains in prices. But after examining data gathered from 29 metropolitan areas, the team was surprised to see that relatively low-priced houses sometimes appreciated more quickly than those in expensive neighborhoods.
"We found that even as far back as the 1980s, poor neighborhoods that bordered upper-class neighborhoods had house prices that appreciated by seven percent more than other poor neighborhoods that were farther away from rich neighborhoods," Guerrieri explained. "These improved neighborhoods also experienced a more dramatic rise in income and education than other poor neighborhoods."
From 2000 to 2006 in Harlem, for example, the researchers discovered that homes in initially low-priced neighborhoods appreciated at nearly twice the rate of homes in more expensive neighborhoods, such as the neighboring Upper West Side. Similarly, while prices rose quickly in the high-class Chicago neighborhood of Lincoln Park in the same period, they did not rise as much as the prices in nearby Wicker Park, a former haven for impoverished artists.
Because the steep price increases in these neighborhoods initially surprised the researchers, they dug deeper to find the reasons why. They conclude that as housing demand increases, people who are doing well want to live in places with low crime rates, safe public transportation and good public schools — amenities that come with rich neighborhoods. But while many cannot afford these high-end neighborhoods, they can afford nearby areas that share some of these benefits. As these new residents move into nearby blocks, housing prices begin to go up, dilapidated houses and buildings are transformed or torn down, and the neighborhood becomes more affluent.
"It is clear now that the larger the housing boom, the more homes in poor neighborhoods appreciated relative to rich neighborhoods," Hurst said. "We found one interesting gentrification pattern but this data can provide other patterns that are worth studying."