Negative Multifamily Rent Growth Continues for Another Month

With seasonal slowdowns, rents are probably going to stay low for another month or two.

November is the fourth month in which the national median rent for multifamily buildings has declined, falling 0.9% month over month to $1,340, according to Apartment List. Because of the low demand over the holidays, rent growth is probably going to keep going downhill for another month or two.

Growth from the previous year was -1.1%. Apartment List stated that the current situation “stands in stark contrast to the prevailing conditions of 2021 and 2022 when rent prices were surging and year-over-year growth peaked at 18% nationally.” However, the national median rent is still roughly $250 per month higher than it was just three years ago, even with this cooling off.

6.4% is the national vacancy rate, which is a little higher than it was before the pandemic. Given the number of apartment buildings that are continuously being constructed, it is unlikely that this will change anytime soon. On the other hand, local markets, not national ones, determine construction levels. As previously predicted by GlobeSt.com, there will be a great deal of fluctuation in the upcoming year, with certain metro areas experiencing severe gluts.

According to the business, rents decreased regionally in 89 of the 100 largest cities in the country in October, and prices are declining year over year in 68 of these 100 cities. “The California markets like Oakland, San Francisco, and Long Beach, where apartment demand remains sluggish, are concentrated in the sharpest rent declines over the past year.”

Rewinding to November of 2017, that drop was the second biggest Apartment List had ever experienced. They stated, The only other time November brought a greater decline was the previous year when rents dropped by 1.1 percent as the market entered the still-present period of sluggishness. In contrast, November declines averaged 0.5 percent from 2017 to 2020.

The Midwest and Northeastern markets are experiencing the fastest rent growth. Providence (4%), Milwaukee (4%), Louisville (4%), Chicago (3%), Oklahoma City (3%), Hartford (3%), Boston (3%), New York (3%), Washington, D.C. (2%), and Indianapolis (2%) have had the highest rent increases during the previous 12 months.

Austin(-6%), Portland, Ore.(-5%), San Francisco(-4%), Phoenix(-4%), Atlanta(-4%), Orlando(-4%), Raleigh(-4%), Jacksonville(-4%), San Antonio(-3%), and Salt Lake City(-3%) had the smallest rate of increase in rent.

The rate of vacancy has recovered to levels higher than before the outbreak. They stated, Changes in the balance between the number of vacant apartments available and the number of renters looking to move into them are largely responsible for the price fluctuations that have rocked the rental market over the past three years.

The SVN Vanguard team knows investors need an experienced multifamily property management company by their side. Contact us for multifamily properties for lease and for sale.

While certain metro areas that had significant demand during the epidemic now exhibit weakness, others that were hardest hit during the pandemic now show strength.

Data is beginning to indicate that there may be greater pressure on the multifamily segment than many people expected. Based on September’s CMBS payment rates, Moody’s Analytics CRE recently raised the topic of whether multifamily was anything to be concerned about.

In their research of other property types, they were “quite surprised to see a particularly poor September showing for Multifamily.” “The payout rate for multifamily has been exceptionally high throughout the year. Only February (82.8%) and April (92.8%) had payout rates less than 95% before September. The September figure was an astounding 71.7%. This was particularly unexpected considering that three of the year’s top four payoff months had just ended.

Trepp now takes a different tack when explaining how multifamily may have become a threat to regional banks in addition to office.

Research analyst Emily Yue for the company stated, “Trepp estimates that $351.8 billion in multifamily bank loans will mature between 2023 and 2027 based on the Fed Flow of Funds data.” In this analysis, Trepp looks at trends in criticized loans in the multifamily markets in the United States. It takes into account the effect of recent developments on the growth of rental income as well as elements like higher interest rates, more stringent bank regulations, and tighter liquidity, all of which have limited refinancing options.

Trepp ranked the default risks of metropolitan statistical regions (MSAs) based on the greatest outstanding balances of multifamily loans. The ratings range from 1 to 9, where 1 represents the lowest risk and 6 or more is considered a “criticized loan.”

The percentage of multifamily loans that have been criticized varies significantly among U.S. geographies; some areas that have weathered the pandemic well are beginning to show signs of weakness on the periphery, while other areas that were severely affected by the pandemic are beginning to recover, Yue stated. From Q4 2021 to Q2 2023, the percentage of criticized multifamily loans decreased in three multifamily markets while it increased in the remaining ones. While some of these metros have seen spikes or declines in the rate, most have seen a delinquency rate that has remained close to 0.0%.

In a dramatic turn of events, some of the metro areas most severely damaged by the pandemic are now exhibiting strength, while others with robust rental demand are displaying weakness. Furthermore, over thirty percent of multifamily debt is held by banks.

In Q2 of 2021, New York had a 31.0% loan criticism rate. The biggest decline of all was shown in the percentage by the same period in 2023, which was 16.3%. However, as the delinquency rate increased from 0.9% at the end of 2021 to 1.9% in Q2 of 2023, this does not by itself provide assurance of safety.

The Phoenix area, a hot market during the epidemic, is an illustration of the second dynamic. In contrast to 2021 and 2022, asking rents have been declining in the first half of 2023. At midyear, the overall percentage of vacancies was 9.3%, whereas the national average was roughly 6%. Although there is currently no delinquency, “the increase in the criticized loan share is indicating perceived risk coming down the line for these loans due to oversupply and looming concerns of a recession.”

The SVN Vanguard team knows investors need an experienced commercial property management company by their side. Contact us for multifamily properties for sale.

1. WEWORK BANKRUPTCY, CRE IMPACT

On November 6th, co-working trailblazer WeWork filed for Chapter 11 bankruptcy, bringing additional unease to an office sector battered from the residual effects of the remote-work revolution.
Over the previous decade, including before the pandemic, many office landlords around the world looked to the co-working giant as the future of office life, with leasing to the firm proliferating across many global economic hubs. However, as those bets soured in recent years, owners have increasingly turned to debt financing to stay afloat, raising concerns that a reduction of leased space by WeWork could place a wave of distress on a sector already facing high vacancy rates.
There are also concerns about the ripple effect of the bankruptcy on small and mid-sized banks, which are disproportionally exposed to commercial property debt on their balance sheets. Still, US banks remained highly liquid, limiting the risk of the CRE exposure to the broader financial system.
Notably, many WeWork leases are in Class B buildings, which predictably have had a tougher challenge with occupancy compared to Class A buildings during the current downturn. This may increase the challenge that landlords will face in filling new vacancies. So far, WeWork has filed to terminate nearly 70 leases worldwide.

2. COMMERCIAL PROPERTY PRICES

According to the MSCI RCA Commercial Property Price Index (CPPI), all US commercial sectors posted annual price declines in September, matching August’s -9.0% year-over-year drop. However, average prices were flat month-over-month, potentially signaling that we are close to the cyclical nadir for commercial prices.
The apartment sector posted the most significant year-over-year decline in CRE for the second straight month, but declines in the sector have eased in the third quarter compared to earlier this year. Apartment prices fell by -0.3% month-over-month and -12.8% year-over-year in September.
The industrial sector, which has been the best-performing CRE sector during both the pandemic-era boom and the current market downturn, fell -0.8% annually but climbed 0.2% month-over-month from August. The directional shift of the sector in September may serve as another signal that commercial prices are reaching their floor.
Retail prices were down -0.1% from August and -6.9% year-over-year. Meanwhile, suburban offices fell -0.3% from August and -9.0% annually. CBD office prices were unchanged monthly but declined -5.6% year-over-year.

3. CRE MARKET INSIGHTS, OCTOBER 2023

The National Association of Realtors’ (NAR) monthly report on CRE insights notes that the commercial real estate market continues to experience rising vacancies and slowing rent growth in October but that labor market fundamentals and seasonal factors represent tailwinds that are keeping the sector stable.
NAR notes that the multifamily segment has seen resurging demand in 2023 as mortgage rates mount, dampening homebuying activity. Net absorption in the sector has risen by 33% over the last 12 months, while construction unit deliveries are up 17% from last year.
Rent prices in the industrial sector continue to expand and remain above pre-pandemic levels despite a recent deceleration in rent growth. Vacancy rates have moderated back towards pre-pandemic levels; however, this is primarily due to a 43% increase in square footage delivered over the past year.
Retail sector vacancies now sit at a 10-year low of 4.1% as of September. Rent growth has eased but remains above pre-pandemic levels. Further, consumer spending remains strong despite higher goods prices, keeping the sector on solid footing.

4. INTEREST RATE DECISION

At its November 1st policy meeting, FOMC officials held interest rates unchanged at their target rate of 5.25% to 5.5%. The Fed has now held rates unchanged for two consecutive months, a first throughout its current tightening cycle that began in March 2022.
While acknowledging the favorable trajectory of US inflation pressures, Fed Chair Jerome Powell refrained from claiming victory, indicating that the economy remains above the central bank target of a 2% longterm average.
Powell also cited the resiliency of the US economy, stating that taming inflation will likely require a slowdown in the labor market and economic growth. Real US GDP grew by 4.9% in the third quarter, its fastest pace of growth in nearly two years.
Several Fed watchers and experts foresee the Fed holding rates at current levels well into next year, citing the economy’s ability to grow at current borrowing rates as a hedge against the downside risks of keeping rates higher for longer. Meanwhile, elevated inflation expectations suggest that rate cuts would be too risky of a move for policymakers to make in the short term as they attempt to re-anchor inflation expectations towards their 2% target.

5. FINANCIAL STABILITY RISKS

The October release of the Federal Reserve’s semi-annual Financial Stability Report notes that several aspects of the US economy remain on solid footing, including leverage in the financial system, funding risks, and borrowing by businesses and households. However, strains in the CRE industry, persistent inflation, and geopolitical risks are the most significant near-term risks to the financial system.
Despite the rise in debt servicing costs, the report notes that debt-to-GDP ratios among households and businesses remain close to historical averages.
Price-to-earnings ratios among equities are elevated, but bond market risk premiums remain near the middle of their historical distribution, signaling low risk.
Still, risks are rising in other areas. The Fed notes that a significant slowdown in US economic growth could dampen profits in non-financial businesses, including real estate. High leverage levels in these sectors could expose them to stress and defaults in a recession scenario.
Geopolitical risks to global markets have increased. Russia’s ongoing war against Ukraine continues to impact energy and agriculture markets, and more recently, Hamas’ attack on Israel and the ensuing response risks spilling over into a broader Middle East conflict and could lead to adverse effects on global markets.
The banking system remains sound, according to the report, despite vulnerabilities exposed during the bank failures in the spring 2023. Most US banks remain highly liquid with capital ratios close to previous decade averages.

6. OCTOBER JOBS REPORT

According to the Bureau of Labor Statistics, the US economy added 150,000 new jobs in October, the smallest monthly growth total since June. The unemployment rate ticked up marginally to 3.9%.
Last month’s growth came in under the consensus forecast of 170,000 and is a sharp decline from a strong showing in September when firms added nearly 300,000 new payrolls.
The Health Care (+58,000), Government (+51,000), and Construction (+23,000) sectors led all occupations in gains, while manufacturing posted a decline, in part due to the persistence of auto strikes during the month.
Average hourly earnings increased by 0.2% month-over-month and 4.1% year-over-year in October. Annual wage growth has charted above inflation in consecutive months since May, giving workers a boost in real wages. Upcoming CPI data will confirm whether real wages have continued to grow in October.

7. DECLINE IN APARTMENT STARTS EXPECTED

A recent survey conducted by John Burns Real Estate Consulting suggests that apartment developers expect starts to decline further over the next 12 months following a 40% decline in starts so far in 2023.
The survey points to increasing debt cost challenges for developers, as construction pricing remains relatively unchanged from previous years, but higher interest rates raise project costs. According to the survey, developers would need a 10-20% decline in construction costs to offset higher debt financing costs.
Analyzing the report, Real Page SVP and Chief Economist Jay Parsons notes that the industry has recently enjoyed a generational high in apartment starts. Still, this phase is coming to a close as borrowing costs settle at new highs and price gains slow as supply catches up to demand.

8. LOGISTICS MANAGERS INDEX

The Logistics Manager’s Index, a composite score that denotes expanding or contracting activity in the warehousing and transportation sector and a key proxy indicator for Industrial property activity, posted a third consecutive increase in September. It is the most robust performance for the sector since January.
Warehousing prices slowed in September but continued to climb, while both warehouse and transportation capacity fell, signaling increased activity and demand relative to supply.
Transportation prices fell but at their slowest rate since September 2022.
Inventory levels have recently moved back into expansion after five consecutive months of contraction.
It is to be seen whether the recent expansion is due to seasonal factors or a sign that the economy is picking back up again. Notably, month-ahead expectations by survey respondents in September were at their strongest in 2023.

9. MANUFACTURING PURCHASING MANAGERS’ INDEX (PMI)

The US ISM Manufacturing Purchasing Managers’ Index (PMI) dropped in October from a 10-month high in September, indicating further contraction in the US manufacturing sector.
The contraction in new orders accelerated from the previous month and charted its 14th straight monthly decline. Survey respondents noted lower demand from both domestic and foreign markets.
Production also slowed, with a sharp decline in the backlog of orders, partially offsetting a decline in demand for new products.
Sector employment also contracted following an increase in September, while input prices fell for the sixth consecutive month.

10. US PERSONAL SPENDING

According to the Bureau of Economic Analysis, personal spending in the United States rose by 0.7% month-over-month in September, an increase from August and beating market expectations of a 0.5% growth rate.
Spending on services rose sharply, increasing by $96.2 billion or 0.8% month-over-month. Within services, international travel, housing and utility services, healthcare, and air travel saw the most significant increases.
Spending on goods also rose during the month, climbing by $42.5 billion, or 0.7% month-over-month. In the goods category, prescription drugs, motor vehicles, and parts contributed the most to September’s growth.

SUMMARY OF SOURCES

(1) https://www.bloomberg.com/news/articles/2023-11-07/wework-s-collapse-is-latest-blow-to-newyork-san-francisco-office-markets
(2) https://info.msci.com/l/36252/2023-10-18/xzzn44/36252/1697663732SmMj3Ch7/2310_RCACPPI_US.pdf
(3) https://www.nar.realtor/commercial-real-estate-market-insights/october-2023-commercial-realestate-market-insights
(4) https://www.federalreserve.gov/newsevents/pressreleases/monetary20231101a.htm
(5) https://www.federalreserve.gov/publications/2023-october-financial-stability-report-overview.htm
(6) https://www.bls.gov/news.release/empsit.nr0.htm
(7) https://yieldpro.com/2023/11/developers-expect-further-decline-in-apartmentstarts/#:~:text=Apartment%20developers%20expect%20a%20further,Investor%20Survey%20dated%20October%2030.
(8) https://www.the-lmi.com/
(9) https://www.ismworld.org/
(10) https://www.bea.gov/news/2023/personal-income-and-outlays-september-2023

This past Monday at the Globe St.’s Multifamily Conference, investment property owners discussed the difficulties of continuing to be successful today and the value of flexibility.

LOS ANGELES — Multifamily owners today face enormous obstacles, yet they are resilient, successful, and ready to respond quickly to upcoming upheavals. The panelists at GlobeSt’s “View From the Top” discussion all agreed on this.

Angela Kralovec, GVP Asset Management of Essex Property Trust, said they are looking into ways to improve property density and possibly add ADUs to their properties, when describing the company’s approach to reinvestment and opportunities.

Rent growth has been slow and decelerating in many regions, according to Noah Hochman, Co-Chief Investment Officer and Head of Capital Regions at TruAmerica Multifamily, who provided an important perspective on the present national situation. He stressed the value of a deliberate renovation approach by declaring, “We are no longer renovating for the sake of renovating.”

Hochman says they have trimmed back and delayed upgrades in several markets and that they now concentrate on three to four renovations every month, pointing out that the repairs are performed on units most in need of repair, as opposed to ten per month. Avoiding over-renovation is the key. Today, we give property turnovers more thought.

President of MG Assets and panelist Jeff Gleiberman said that their organization is reevaluating its approach to value-add assets. According to the panelist, the newer homes they’ve bought have outperformed those undergoing value-add improvements, according to the report.

The current environment, according to Larry Scott, Senior Vice President of Development at Fairfield Residential, has substantial problems with supply chains for insurance and appliances.

“We are striving to strike a balance between maximizing rent increases and fairness within the context of the market, rather than pushing for the highest increases,” Kralovec said with regards to Essex’s dedication to tenant retention.

Additionally, Scott mentioned that, despite the supply being very limited, retention is a problem in some markets.

The SVN Vanguard team knows investors need an experienced commercial property management company by their side. Contact us for multifamily properties for sale.

1. SEPTEMBER JOBS REPORT

The US economy added 336,000 new jobs in September, according to the Bureau of Labor Statistics, almost double the consensus forecasts. The unemployment rate remained unchanged at 3.8%.
September’s employment growth was the highest since January, reflecting continued economic and labor market growth despite higher interest rates and falling business sentiment.
While the figures are strong, gains were mostly seen in industries that had lagged during the post-COVID recovery, and some economists suggest that this may reflect workers being forced to accept positions with lower pay as the breadth of opportunities dwindled.
Average hourly earnings rose by 0.2% during the month and 4.2% year-over-year, both measures growing at their slowest all year.
The report has expectedly brought closer inspection of the Federal Reserve’s upcoming interest rate decision. However, fed futures markets have overwhelmingly foreseen a no-hike scenario at the FOMC’s November policy meeting.

2. JOB OPENINGS AND LABOR TURNOVER

Preceding September’s jobs report was the BLS’ Job Openings and Labor Turnover Survey, which showed that job openings rose larger than expected in August, a leading indicator of the labor demand that caught some forecasters off-guard after the recent jobs report.
Openings rose to 9.6 million, with hires and total separations remaining stable at 5.9 million and 5.7 million, respectively. Among separations, quits and layoffs/discharges were mostly unchanged at 3.6 million and 1.7 million, respectively.
Following the report, markets fell out of concern that the Federal Reserve would renew its rate increases in the face of a continuing hot labor market. However, futures markets have remained firm on a no-hike forecast for the November meeting.

3. FOMC MEETING MINUTES

Minutes from the Federal Reserve’s September meeting show that on balance, officials believe that one additional rate hike will be needed in 2023, though consensus on the forecast was fairly weak.
In the FOMC’s Summary of Economic Projections, about two-thirds of members forecasted one additional rate hike before the end of the year. Members also predict that the median federal funds rate in 2024 will be 5.1%, above the 4.6% forecast at the June meeting.
However, officials were unanimous on the need to keep rates elevated until inflation returns to its 2% long-run target and to “proceed carefully” on future rate decisions as the US economy deals with multidirectional economic forces.

4. THE RISE OF SMALLER FLOORPLATES

As the Office sector grapples with post-pandemic impacts, transactions containing assets with smaller floorplates have become an increasing share of deal volume, according to data from MSCI.
While the percentage of office transactions containing smaller floorplates had steadily risen between the Great Financial Crisis and 2020, it has accelerated during and after the pandemic as companies reassessed their space needs in the face of the new remote-work equilibrium.
Transactions in the 5-10k square-foot range have jumped from about 18% of the market pre-pandemic to roughly 25% today, while the under 5k share has jumped from about 10% pre-pandemic to 15% in 2023.
Both remote work’s impact on offices and shrinking space demand is more than a US phenomenon.
Global deal volume for offices has declined to the lowest since 2008, while smaller floorplates now take up half of all European office transactions, reflecting a global industry shift.

5. HOME AFFORDABILITY

Home affordability fell in the US during the third quarter of 2023 compared to the previous quarter, according to the latest US Home Affordability Report by ATTOM.
Affordability fell in 99% of the counties tracked nationwide by ATTOM, extending a two-year trend of declining home affordability.
Entrenched higher mortgage rates and a modest uptick in asset prices during the third quarter have led to further affordability constraints, with homeownership now requiring 35% of today’s average wages to meet costs. Common lending standards call for a 28% debt cost-to-income ratio, rendering today’s levels unaffordable.
Counties with the largest populations that were unaffordable in the third quarter were Los Angeles County, CA; Cook County (Chicago), IL; Maricopa County (Phoenix), AZ; San Diego County, CA; and Orange County, CA.

6. CHINA RE TROUBLES: IMPACT ON GLOBAL GROWTH

In a previous SVN economic update, our team forecasted little impact from China property giant Evergrande’s woes on US markets, but recent distress in other parts of China’s real estate sector and its economy at large may pose risks to global markets.
“Country Garden,” China’s largest property developer, recently indicated that it may default on US dollar-denominated bonds. Believed to account for up to 30% of China’s GDP, a broader crisis in the nation’s property sector would weigh on its entire economy. China has been the largest source of growth for the world economy in recent decades.
The IMF recently cut its forecasts for Chinese growth and noted that commodity exporters that rely on Chinese demand could be at risk ahead. Still, there is little to suggest that the nation’s property market woes will significantly spill into US commercial real estate.

7. CRE & NET ZERO

A new report by HSBC reviews how the real estate sector is transitioning to net zero, highlighting operator views and strategies in approaching the challenge.
According to the report, 97% of real estate companies say net zero is commercially important to their
business.
56% of real estate companies say that technology developments are helping them progress towards their net zero goals, while 39% claim to be spending more than 10% of capex on the transition, with 51% expected to do so within the next three years.
Retrofitting and embodied carbon received specific shoutouts in the report as critical segments of the company’s strategies. Retrofitting existing buildings is believed to be less carbon-intensive than building new ones, while policymakers are increasingly looking to embodied carbon to make new construction more sustainable.

8. TAX INCENTIVES FOR LOAN MODIFICATIONS & DEBT RELIEF

A recently proposed bi-partisan US House bill aims to amend the tax code for commercial real estate borrowers during loan modifications. The bill zeros in on the cancellation of debt income policy and treats debt forgiveness as a taxable event, where borrowers are taxed on the amount canceled.
The proposal would expand the cancellation of debt income to policies to include pre-2022 loans canceled between 2023 and 2027. It also aims to preemptively respond to the challenge of $1.5 trillion in commercial real estate debt maturing by 2025.
If passed, the legislation could alleviate the distress in the industry by incentivizing loan modifications and debt workouts. While the house sponsors crossed party lines, the bill will still need to seek support in the US Senate and the White House for eventual approval.

9. UBS SIX BURNING QUESTIONS ON REAL ESTATE

A recent report by UBS attempts to answer 6 of the “most burning questions” facing CRE in the face of converging economic trends.
Regarding housing affordability, the firm confirmed trends showing higher stress levels than in recent years, noting that renting is “significantly less” expensive than buying in 48 out of 50 of the largest markets.
Regarding the housing supply and demand imbalance, UBS views that the “lock-in effect” from previously low interest rates will keep homeowners in a holding pattern for some time while would-be homebuyers remain cautious, perpetuating the imbalance.
The firm expects home prices to stay afloat due to the supply-demand imbalance with potential increases in 2024. It also predicts that CRE distress may increase in the short run, but a highly capitalized financial system likely limits its impact.
Regarding office conversions, UBS projects that only 10-15% of existing office stock may be viable for this solution. Meanwhile, they see residential and industrial markets as the most robust CRE investment opportunities in real estate.

10. DATA CENTERS AND NUCLEAR POWER

Data centers have grown in importance in the CRE space as our digital economy needs to converge with an office sector looking to reinvent itself. As SVN Research has covered previously, power demand has driven much of the strategy on where to construct new centers, and a recent operator has turned to an unorthodox source for power needs: nuclear reactors.
According to an analysis by Globe Street, data center operator Standard Power will deploy up to two dozen small modular reactors (SMR) to power new centers in Ohio and Pennsylvania for AI training and blockchain mining.
The 24 reactors will generate roughly 2 gigawatts of power, similar to the scale of reactors used to power
US Navy subs and aircraft carriers.
Experts note that with older grid capacity shrinking and a lack of new sustainable options on the market
as demand for AI and other intensive computing rises, nuclear power presents a creative but controversial
solution.

SUMMARY OF SOURCES

(1) https://www.bls.gov/news.release/empsit.nr0.htm
(2) https://www.bls.gov/news.release/jolts.htm
(3) https://www.federalreserve.gov/monetarypolicy/fomccalendars.htm
(4) https://www.msci.com/www/quick-take/office-property-the-rise-of-the/04098315173
(5) https://www.attomdata.com/news/market-trends/home-sales-prices/attom-q3-2023-u-s-homeaffordability-report/
(6) https://www.axios.com/2023/10/11/chart-chinas-real-estate-struggles
(7) https://www.business.hsbc.com/en-gb/campaigns/transition-pathways/real-estate?cid=HBEU:JS:REALESTATE:D6:GBM:L7:XXG:HPP:9:TS:5:0923:005:TP
(8) https://finance.yahoo.com/news/house-bill-create-tax-incentive-212951670.html?utm_source=newsletter.credaily.com&utm_medium=newsletter&utm_campaign=landlords-under-pressureas-insurance-costs-skyrocke
(9) https://www.ubs.com/global/en/investment-bank/corporate-broking-pitchhiscox/overview/_jcr_content/mainpar/toplevelgrid_818842007/col1/accordion/accordionsplit_1965171366/innergrid_copy/xcol2/teaser_copy/linklist/link.0983566995.file/PS9jb250ZW50L2RhbS9hc3NldHMvaWIvZ2xvYmFsL2NvcnBvcmF0ZS1icm9raW5nLXBpdGNoL2RvY3MvaW5zaWdodDgta2V5LXF1ZXN0aW9ucy1hbmQtYnVybmluZy1pc3N1ZXMtc2VwdDIwMjMucGRm/insight8-key-questions-and-burning-issuessept2023.pdf
(10) https://www.globest.com/2023/10/12/nuclear-powered-data-centers-coming-to-ohiopennsylvania/

The SVN Vanguard team can help with your Commercial Real Estate needs. We can help you find the ideal commercial property for sale or lease. Interested in discussing on Buying or Leasing Office Space? Contact us.

The East Coast comes next, and both are due to the volume of new apartment supply.

RealPage reports that the Midwest area has a substantial lead in apartment growth performance thanks to new apartment supply volumes and rent reductions rather than price rises in several regions of the country.

In fact, year-over-year net inventory growth in 2023 increased by 1.4%, while effective asking rents in the Heartland increased by 3.1% in the year ending in August of that year. Although those figures fell short of the region’s 10-year average, they were far above the trend seen in other parts of the country where annual rent reductions are taking place.

There is yet another exception. In the East, events are also different from those in the majority of other parts of the country, where they are registering annual rent reductions. The year-over-year net inventory growth is up 1.2%, and the growth in the East is more mild than in the Midwest at 2.5%. Once more, it is due to an increase in completed apartment buildings.

However, in contrast to the Midwest and East Coast, where they are “swelling,” according to RealPage, but at a slower rate and affording operators what it also refers to as “some breathing room,” the other regions are discovering that new deliveries weigh down on pricing power.

However, taking a look at some of the other markets provides a more accurate national perspective. As of August 2023, the Carolinas’ effective asking rent change year over year was -0.5%, and its year over year net inventory growth was 3.6%. In the Mountains/Desert region, year-over-year net inventory growth was 3.2%, and the effective asking rent change was -2.1%. In Florida, the year-over-year growth in effective asking rent was 0.7%, and the year-over-year growth in net inventory was 3%. In the Southeast, year-over-year net inventory growth was 2.6%, and year-over-year effective asking rent change was -0.2%. In Texas, the year-over-year change in effective asking rent was -0.3%, and the year-over-year change in net inventory was 2.2%. Last but not least, on the West Coast, the year-over-year net change in asking rent was -0.8%.

The SVN Vanguard team knows investors need an experienced commercial property management company by their side. Contact us for multifamily properties for sale.

And that’s without taking into account the impact of rising Treasury yields.

Everyone in the industry is aware of how difficult the CRE refi market is at this point. However, the connection between high interest rates and many lenders, particularly banks, tightening their requirements and even withdrawing from the markets is still unclear.

To better understand at least one mechanism in place based on the Secured Overnight Financing Rate (SOFR), CRED iQ conducted some data analysis. This is “a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities,” according to the Federal Reserve Bank of New York, rather than looking at a rate range the Federal Reserve sets for the federal funds rate. Instead of self-reported data that banks could manipulate for profit like the old LIBOR measure did, the data is based on transaction costs that have actually been gathered.

It makes sense that the firm highlighted that adjustable rate CRE loans provide a hurdle when interest rates are rising. The increasing rate tidal indicates that there is a significant likelihood that whatever floating rate a plan has foreseen won’t be enough unless an investor, developer, owner, or operator has prepared ahead.

According to CRED iQ’s research on floating loans, 44% of loans with near-term expirations will have rate cap agreements that expire before the loans mature. According to the Federal Reserve Bank of New York’s SOFR data, it is obvious that the increase in SOFR is having a significant impact on upcoming floating rate loan maturities.

a warning that correlations don’t always imply causality. Even though two sets of data are trending in the same direction, they may not fully or even mostly be responsible for one another’s moves. Many apparent correlations between lending and SOFR were discovered by CRED iQ. When researching Fannie Mae floating rate issuance, they discovered “effects of the rising interest rate environment, including the aggregate Average Original Note Rate, Average Loan Scheduled Interest Due, and how these metrics vary by Seller.”

According to CRED iQ, “it is clear from the analysis of the trailing twelve-month (TTM) data that the average interest due on Fannie Mae loans has increased by over 280%.” If rates rise on a floating rate loan, then more money flows into rent-taking with less available to enhance DSCR and lower property values increasing LTV. “This surge is exerting substantial pressure on Debt Service Coverage Ratio (DSCR) and Loan-to-Value (LTV) ratios for these properties.”

Remember that there are other factors as well, such as rising Treasury yields. They act as markers for secure returns that can be used to calculate risk-adjusted management. Over 5.5% yields are on the short end of the Treasury curve. On Monday, September 25, a 1-year is 5.46%, and a 10-year is 4.44. To exit a safe investment, investors require a large return. The biggest asset management, BlackRock, believes that rates will remain high and may even continue to rise from their 16-year highs.

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1. CPI INFLATION

The Consumer Price Index rose 3.7% year-over-year and 0.6% month-over-month in August, its largest monthly increase this year, according to Wednesday’s release by the Bureau of Labor Statistics.
Energy was responsible for much of the increase in headline inflation, rising 5.6% on the month, including a 10.6% increase in gasoline offset by other key energy metrics.
Core-CPI, which excludes food and energy prices from the calculation, rose 0.3% from July and 4.3% year-over-year, hotter than many economists expected. Shelter continued to be a pivotal contributor to core CPI, while prices for other core items, such as used vehicles and airfare, continued to decline.
Just one week after the CPI release, FOMC officials are set to meet to conduct their newest policy decision, where they are largely expected to hold rates steady.

2. INTEREST RATE OUTLOOK

According to the Chicago Mercantile Exchange’s Fed Watch Tool, an overwhelming majority of futures markets (97.0%) expect the FOMC to hold the benchmark Fed Funds rate unchanged at 5.25-5.50%.
Despite a hotter-than-expected core-CPI inflation reading in August, officials prefer the Bureau of Economic Analysis’ PCE core inflation, which, while currently hovering slightly above the CPI measure, has shown a steadier decline over the past year.
Fed policymakers have recently positioned themselves with a more balanced outlook on inflation, viewing underlying price pressures as fading but cautious about taking their foot off of the break too prematurely. Presently, futures markets do not predict a rate cut from current levels until June 2024.

3. CONSUMER INFLATION EXPECTATIONS

US consumer inflation expectations for the year ahead rose to 3.6% in August, up from 3.5% in July, according to the New York Fed’s monthly survey.
This month marked the first time since March that consumer inflation expectations increased. One-year-ahead inflation expectations for rent ticked up 20 basis points to 9.2%, gas up 40 basis points to 4.9%, and food up 10 basis points to 5.3%.
Median home-price expectations for one year ahead climbed 30 basis points to 3.1%, its highest mark since July of last year.
Despite the broader rise in inflation expectations, they remain well below where they were one year ago. August’s marginal increase is unlikely to move the Fed away from its likely decision to hold rates firm in September.

4. AUGUST JOBS REPORT

The US economy added 187,000 jobs during August, continuing a positive but annualized downtrend as job openings continue to fall from their March 2022 peak. The unemployment rate jumped to 3.8%, its highest level since February 2022.
Health care experienced the largest gain by sector (+71,000), followed by leisure and hospitality (+40,000), social assistance (+26,000) and construction (+26,000).
Transportation and Warehousing was the biggest loser (-40,000), likely impacted by a recent major bankruptcy in the trucking industry.
Partially explaining the rise in the unemployment rate is an expansion of the labor force, which increases the number of people looking for jobs relative to job openings, distorting the unemployment rate. The labor force participation rate rose to 62.8% in August, the highest since February 2020, shortly before the COVID-19 pandemic in the US.
Average hourly earnings increased 0.2% month-over-month and 4.3% over the past 12 months, a slowdown from previous months. The slowdown in wage inflation is a crucial signal that underlying inflation pressures are easing in the United States.

5. SMALL BUSINESS OPTIMISM

The Small Business Index, produced by the National Federation of Independent Business (NFIB), declined slightly in August from the previous month, the first monthly decline since April.
Small Business optimism rose steadily throughout the spring and early summer months, indicative of fading recession fears and re-anchored inflation expectations. However, the recent downtick may signal a reversal in sentiment as experts warn that US recession risks remain. At the same time, Fed policymakers indicate a willingness to keep rates restrictive in the medium term.
23% of small business owners indicated that inflation was their single most important problem, up two percentage points from July.
The share of owners expecting better business conditions over the next six months declined, discouraged by lower future sales growth prospects.

6. LOGISTICS MANAGERS’ INDEX

The Logistics Managers’ Index (LMI), a diffusion index that measures activity in Inventory, Warehousing, and Transportation, rose in August at its fastest pace since February.
The increase arrives after five consecutive months of declines, each registering all-time lows for the index. Sector activity is a key barometer for the underlying fundamentals impacting Industrial Real Estate.
August’s expansion was driven by increased activity across all eight LMI sub-metrics. While inventories remain in contraction, the rate of decrease has slowed, while inventory costs and warehouse pricing have risen.
Transportation utilization has also moved from contraction territory to neutral, while transit pricing continues to fall, but at a slower rate than in previous months.
While it is unclear if LMI’s trend toward expansion is a one-off or here to stay-, concurrent trends in wages and consumer spending levels, alongside anecdotal evidence from industry participants, support the latter.

7. WHOLESALE INVENTORIES

Wholesale inventories in the US fell by 0.2% between June and July, according to the latest data available from the US Census Bureau. On an annual basis, inventories remain up by 0.5%.
Inventory levels performed worse than market forecasts but slightly recovered from a steeper 0.7% drop between May and June. Levels have now declined for five consecutive months.
The most significant declines were in furniture (-2.9%), hardware (-0.8%), electrical equipment (-0.8%), and durable goods (-0.3%).
On the flip side, inventories of petroleum rose (4.9%), as well as farm products (3.4%, and non-durable goods (0.1%).

8. DATA CENTER TRENDS

Power availability appears to be the primary driver of data center development in the US, according to a recent analysis penned in Globe St.
Rental rates appear to increase faster in areas where data centers already exist. While these agglomerations aren’t completely surprising, it questions why newer markets with cheaper available aren’t emerging more quickly and normalizing nationwide rents.
As the article notes, one key reason for this is the power requirements for such real estate ventures. These requirements have forced developers to prioritize space with existing power infrastructure suitable for their needs, keeping rents high and skyrocketing construction activity in the sector.

9. REDBOOK RETAIL INDEX

The Redbook Index, a sales-weighted index of year-over-year same-store sales growth in the US, has quietly rebounded from two-year lows that snowballed earlier this summer, according to the latest data from Redbook Research, Inc.
Just seven weeks ago, the index had fallen into negative territory, falling by an average of 0.3% year-over-year during July. In August, year-over-year retail sales accelerated and have climbed back to an annual growth rate of 4.6% as of the week ending on September 9th.
The Redbook serves as a leading indicator for the retail industry, showing near-real-time sales data for retailers. At the same time, the more popular Census Bureau measure reports on a one-month lag. The latest Redbook data may signal a continued positive trajectory for the Census Bureau’s sales data, which during July, experienced its biggest annual increase in five months.

10. SPECIAL SERVICING RISES

Special servicing rates, a helpful test for the health of commercial property cash flows and their ability to cover debt service, rose for the seventh consecutive month in August, according to the latest data from Trepp.
Office properties continued to lead increases in special servicing, up 39 basis points during the month. Most other property levels had negligible changes, with multifamily experiencing the second largest increase, rising 32 basis points, while the retail rate fell by 80 basis points.
In total, $1.21 billion in loans were transferred to the special servicer in August. Noteworthy, a single multifamily property in San Francisco that was transferred accounted for 21% of the overall monthly increase. A separate Midtown Manhattan office property that was transferred accounted for 15% of the overall increase.
Special servicing rates for lodging and industrial properties were little changed during August.

SUMMARY OF SOURCES

(1) https://www.bls.gov/cpi/
(2) https://www.cmegroup.com/markets/interest-rates/cme-fedwatch-tool.html
(3) https://www.newyorkfed.org/microeconomics/sce#/
(4) https://www.bls.gov/news.release/empsit.nr0.htm
(5) https://www.nfib.com/surveys/small-business-economic-trends/
(6) https://www.the-lmi.com/august-2023-logistics-managers-index.html
(7) https://www.census.gov/
(8) https://www.globest.com/2023/09/12/where-the-next-generation-of-data-centers-is-heading/
(9) https://www.redbookresearch.com/
(10) https://www.trepp.com/hubfs/Trepp%20Special%20Servicing%20Report%20August%202023.pdf

The one million apartments currently under development might not even scratch the surface of the country’s housing demands.

Rents have moderated over the past three years as a result of the multifamily sector experiencing a construction boom not seen since the 1970s.

But things might be about to change.

In a recent research, Greg Willett of Institutional Property Advisors predicted that rent growth will return by the spring of 2024 and reach “robust” levels by 2025.

Early multifamily construction started to slow down in 2Q 2023, with starts in important markets declining marginally. According to Willett, this was primarily due to decreased availability to development money. Following the failure of regional institutions earlier in the year, the biggest banks were reluctant to provide money for real estate, while smaller banks were also reluctant. Along with the low rate of rent growth, capital sources were concerned about rising operating costs, particularly insurance rates that “soared above past norms.”

Despite the fact that more than a million apartment buildings are now being built in the United States, the housing shortage in the country may not be much reduced. Only 15 markets have a building pipeline that is about half full, with 30,800 units being developed there. Willett stated that the start volume was down 52% from the quarterly norm of 64,200, which was maintained for nine quarters beginning in early 2021 and ending in early 2023. “From April through June 2022, absolute peak quarterly starts totaled 81,500 units.”

By spring 2024, he said, “the normal seasonal upturn in leasing velocity should coincide with obvious signs that today’s new supply excess is temporary,” causing rents to rise throughout 2025.

Texas shows the clearest indications of a slowdown in apartment development. Even though these metros continue to lead the nation in terms of job growth and apartment demand, starts dropped by 79% in Houston, 74% in Austin, and 64% in Dallas-Fort Worth compared to the previous two years. Rents are consequently expected to increase for them.

Philadelphia, Denver, and Washington, DC, all of which have had dramatically decreased multifamily development starts, are further candidates. Nashville, Phoenix, Miami, Orlando, and Charlotte are all experiencing more gradual drops. Phoenix, Raleigh-Durham, Charlotte, and Dallas-Fort Worth were all at the top of the list for multifamily starts in the second quarter, each with 3,200 to 3,500 units being built, despite the construction slowdowns.

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Back-to-office orders, absorption, and occupancy improvements merit at least giving the benefit of the doubt.

The office market has been challenging, as both heaven and the tax authorities are aware. Recently, Goldman Sachs reported that office vacancy rates will continue to climb as a result of work-from-home policies, office tower vacancy rates are increasing, and metro area office property sales are generally down year over year in the first half of 2023.

But despite everything, “there is a glimmer of hope in the news surrounding office properties,” as Trepp put it.

One of the news items is that organizations like Google, Amazon, and Meta are promoting going back to work, “signaling a shift in their approach to remote work,” as Trepp’s Vivek Denkanikotte put it. These large corporations must maintain space since they will soon have a three-days-per-week in-office requirement. The weighted average debt service coverage ratios for Amazon and Google properties with outstanding loan balances, according to Trepp, are 2.30 and 2.11, respectively. This indicates significant strength and suggests, though does not guarantee, that refinancing the loans, which total $2.70 billion between the two and mature by the end of 2024, might be simpler than in recent years.

Similarly, although Trepp didn’t mention it, several major financial services firms have also been pressuring staff to return to work, which may indicate another significant economic sector supporting numerous loans.

The metro performance comes next. According to Denkanikotte, the metro areas of San Francisco, Chicago, and Seattle are three of the biggest in the country in terms of office exposure and are home to enormous office buildings for prestigious businesses like Google, Meta, and Amazon, among others. “Office performance in these places was dismal for the majority of 2023 as many of the aforementioned corporations decided to reduce their office presence. Recent data, however, have shown the following encouraging signs.

June and July 2023 saw higher office visits than in any previous month since the epidemic, according to Placer.ai’s July summary, which noted that “return-to-office mandates appear to be slowly but surely moving the needle.”

Washington, D.C. is a regional city. Has the shortest year-over-four-year (Yo4Y) visit gap of any assessed city in July 2023, placing first in total office recovery, according to Placer.ai. “However, San Francisco witnessed the largest year-over-year (YoY) increase in visitors, despite the city’s generally slow return to the office. Even while foot traffic in San Francisco offices decreased somewhat in July 2023 compared to the previous month, it remained higher than it has ever been since COVID. In July 2023, there were more office visits in other cities as well, including New York, Denver, Boston, and Chicago, than there had been prior to the pandemic.

“According to Trepp CMBS data,” the company noted, “San Francisco has the third-largest allotted amount for office assets, at $12.3 billion, behind only Los Angeles and New York. More than 71% of this balance have a DSCR (NOI) above 2.00.

Positive office absorption has been observed in Chicago’s downtown business district. Seattle had more openings, but the downtown area has more workers.

“As we look ahead to 2024 and the maturing office loans, the data reveals a mix of occupancy rates, but the overall trajectory appears to be toward recovery,” noted Denkanikotte. This confidence is further supported by the availability of Class A buildings and the enthusiasm of Fortune 100 corporations to reopen their operations. Despite the significant difficulties the office sector has endured, these optimistic patterns suggest that a better future may be ahead, providing hope and the opportunity for the industry’s rebirth.

The SVN Vanguard team knows investors need an experienced commercial property management company by their side. Contact us for office properties for sale or for lease.