National Overview

OFFICE

As the pandemic sent corporate America from boardrooms to bedrooms in 2020, long-held assumptions about productivity are now rightfully up for debate. On one side of the spectrum are those that argue that office spaces facilitate an agglomeration of ideas, culture, and productive output. On the other hand, many argue that long commutes into places of work are outdated norms, and the commute time saved by remote work can generate both greater worker productivity and improved quality of life — a classic case of having the cake and eating it too. Now, with 2021 in the rearview, and after two distinct COVID waves derailed back-to-office timelines, there has been little resolution to the so-called big questions from a year ago.

According to The Pew Research Center, as of January 2022, for American adults who report being able to complete their jobs from home, 59% are doing so most or all of the time, and 18% do so some of the time. The VTS Office Index (VODI), which measures new Office leasing demand, remained down by 42% relative to its pre-pandemic benchmark through the end of 2021. As the public health threat lessens, these data will undoubtedly improve, but the question is by how much. In a tight labor market, the desires of workers can quickly transition into leverageable demands.

According to Morning Consult’s tracking of remote workers, 84% have enjoyed being remote, 79% feel they are more productive working remotely, and 76% would be more likely to apply for a job that offers remote work.¹

SVN® Product Council Office Chair Justin Horwitz notes that “arguably, Office properties were the most negatively impacted of all the product types as a result of the pandemic.” However, he holds that 2021 was a year of recovery as sales volumes came back to peak levels thanks to returning “investor demand for quality office buildings, […] particularly for well-stabilized assets in strong locations.”

In their Q4 2021 report, Moody’s Analytics REIS attests that while the stage was set for Office sector distress in 2021, the incoming performance data failed to show it.² Effective rent growth remained negative to begin last year but had returned to growth by the third quarter. Through Q4 2021, of the 82 markets that Reis tracks, 59 had positive absorption, 53 had improving occupancy, and 61 saw improving rent growth — a stark contrast from one year ago.

The open questions over the workplace of the future and its role in our daily lives appear most pertinent to Gateway markets such as New York. According to New York’s MTA, ridership of NYC’s subway system is forecast to be a long way off pre-pandemic ridership levels through 2025.³ Moreover, many of its stations seeing the largest declines in ridership are in Central Business Districts (CBDs) such as Midtown and Manhattan’s downtown Financial District.

Outside of Gateway markets, the picture on the horizon appears a bit rosier. According to a Chandan Economics analysis of Real Capital Analytics data, Suburban Office valuations continue to soar. Over the past three years, the relative price per square foot premium an Office sector investor would have to pay for a CBD asset over a Suburban asset shrank from 79% to just 49%. Mr. Horwitz notes that “suburban markets are the beneficiary of businesses adjusting to the “new normal.”

 

Financial Performance

TRANSACTION VOLUME

Transaction volumes for Office assets saw considerable improvement in 2021. According to Real Capital Analytics, more than $139 billion of asset value traded hands last year, a 56.5% improvement over 2020’s total. Still, despite the improvement, the Office sector was the only major CRE property type that did not eclipse its 2019 peak in 2021, as transaction volumes fell about $5 billion short.⁴ While the resumption of strong trading volumes is encouraging, the apparent lack of pent-up demand that has been observed in other property types may signal continued concern for the sector as hybrid work figures to be a market-shaping force for years to come.

CAP RATES AND PRICING

Cap rates for Office properties declined steadily throughout 2021, finishing the year with a sector average of 6.2% — down 31 bps year-over-year.⁵ Suburban Office assets continued their bull run in 2021 as pandemic-induced migration patterns and remote work adoption has proven broadly supportive of suburban commercial real estate at the expense of central cities, especially in Gateway markets. Last year, cap rates for suburban Office assets sank by 38 bps, settling at 6.3%.⁶ As recently as mid-2019, the cap rate spread between suburban and Central

Business District located Office assets stood as high as 147 bps.⁷ Through Q4 2021, this spread has fallen to just 55 bps.⁸ Medical Office assets also saw significant cap rate compression last year, declining 38 bps to 5.9%.⁹ Meanwhile, Single Tenant Office assets saw cap rates fall by just 4 bps, landing at 6.5%. Central Business District Office assets, the most maligned property group in the sector, saw cap rates rise by 18 bps in 2021, settling at 5.8%.¹⁰

Prices for Office assets finished 2021 up an average of 6.1% from the year earlier. Single Tenant Office assets were the clear laggard of the group, as prices increased by just 5.4% year-over-year through Q4 2021. CBD assets followed next with annual price appreciation rates of 10.4%. Again, Suburban and Medical Office properties were the clear winners in 2021, as prices grew an average of 15.1% and 15.5%, respectively.

 

Markets Making Headlines

TERTIARY WESTERN MARKETS ON THE RISE

The major Office success stories throughout the pandemic have come from outside of the traditional globalized markets like New York, San Francisco, and Los Angeles. Instead, outflowing residents and businesses from the traditional hubs into tertiary alternatives has generated momentum for a number of well-positioned smaller cities.

Nevada continues to be a standout in this area. Las Vegas seemingly has gleaned lessons from the Great Recession, and over the past decade, it has made significant progress in diversifying its labor market. Las Vegas led all other metros for the largest gains in Office sector property valuations last year (+13.2%), according to CoStar. For nearby Reno, it is a similar story. The rising competitiveness of Reno saw its Office sector post the nation’s third-biggest jump in rents (+4.9%) and the fourth largest jump in occupancy rates (+1.6%) last year.¹¹ The Economic Development Authority of Western Nevada credits Reno’s recent success to a decade-long labor diversification plan adopted in Washoe County.¹² Reno’s unemployment rate sat at a rock bottom 2.8% at the end of 2021 — 1.1 percentage points better than the national average.¹³

Moving beyond Nevada, several other secondary cities in the West continue to see their stock rise. San Diego posted a sizable jump in Office space net absorption totals in Q4 2021, coming in at 648,414 square feet, surging from just 2,913 square feet in the same period the year prior.¹⁴ Colorado Springs, CO, stands as a rare example of a metro where there are more employees today (310k) than there were entering the pandemic (305k).¹⁵ According to CoStar, the relatively small Colorado city posted the fifth biggest jump in Office sector valuations last year, rising a healthy 8.8%.¹⁶

In Spokane, WA, short-term headaches created by the pandemic are pitted against long-term improving fundamentals. According to Guy Byrd of SVN | Cornerstone, “Spokane’s CBD has been the weakest performing market in the last year as a significant number of tenants are choosing the increasingly popular hybrid work model.” He goes on to cite that “recruiting top talent and providing attractive work environments for workers who now prefer remote work is a significant new challenge.” Still, Washington State anticipates that Spokane will be a site for significant growth in the years ahead. While Spokane County is home to just over half a million people, the State’s Office of Financial Management projects that its resident population will swell by another 90k by the year 2040.¹⁷ Despite the ongoing headwinds, Mr. Byrd notes that vacancy rates improved last year as “users were forced to reinvent the most effective office environment.” Moreover, sales volumes also ticked up in 2021 “due to low interest rates and minimal new office construction,” a trend that forecasts should carry into 2022, “subject to economic conditions vital to the market.”

 

THE UNRETIREMENT COMMUNITY

Success begets success. Florida saw its population grow by 211k people in 2021 — more than every state not named Texas.¹⁸ With the influx of new residents, there is increased demand throughout all verticals of commercial real estate. After all, these incoming residents need places to live, places to shop, and places to work. Florida’s Office markets, including in suburban settings, saw statewide success in 2021.

Fort Myers, a smaller Office sector compared to Florida’s more developed alternatives, has seen demand far outpace supply as it currently boasts the highest market-level occupancy rate (95.5%) in the country.¹⁹ Moreover, between the end of 2020 and the end of 2021, the Office occupancy rate rose by the second-highest clip in the country, growing by 1.8 percentage points.²⁰

According to SVN | Commercial Advisory Group’s Larry Starr, Sarasota is “boasting some of the strongest office rent growth in the country,” a claim that is backed up by CoStar data, which shows rents in the area growing by 5.3% last year.²¹ “Office demand has remained strong in Sarasota throughout 2021, pushing vacancies to new lows.” In Tampa, a metro that has seen as much commercial real estate success as sporting success over the past half-decade, saw firming demand last year. Mr. Starr notes that Tampa remained a standout as “both asking rents and office demand improved throughout 2021, significantly outperforming the National Index.” Mr. Starr does see the potential for some softness in 2022, suggesting that Tampa’s office sector will be “challenged due to the increase in the amount of space available on the market,” as the pandemic triggered “the largest supply wave in over a decade.” Still, he sees the rising profile of Tampa and its ability to attract re-locating businesses as broadly supportive of the city’s long-term fundamentals, citing that “office investment activity has sharply increased with annual sales volume roughly doubling 2020 levels.”

 

Macro Economy

ECONOMIC GROWTH

The US economy has experienced a robust recovery from the initial shock of COVID-19. A pandemic-driven shift in consumption away from services and into goods, boosted by a sweeping stimulus effort, reconditioned our economy well before an off-ramp from the public health crisis was in sight. By Q3 2020, inflation-adjusted GDP shrugged off its worst quarterly performance on record to record its best, a 33.4% annualized growth rate.¹ In 2021, the total nominal value of all consumption and production reached $23.0 trillion, a 9.1% increase above 2020’s total and 6.9% above 2019’s total. After adjusting for inflation, the US economy is 3.2% larger than its pre-pandemic peak.²

The foundation of the economy’s rebound has been a swift labor market recovery. At its April 2020 peak, the official unemployment total reached a staggering 23 million people.³ By the start of 2021, the unemployment total had improved to just 10.1 million people out of work.⁴ Over the past year, this level has come down to 6.5 million people, less than one million above the pre-pandemic level of 5.7 million.⁵

 

INFLATION & MONETARY POLICY

One year ago, the market consensus was that the Federal Open Market Committee (FOMC) would not begin a monetary policy tightening cycle until 2023. However, as demand surges in the face of gummed-up supply chains, rampant inflation has emerged at center stage, forcing shifting guidance from policymakers.

After decades of tepid price increases, in January 2022, the Consumer Price Index (CPI) reached 7.5%, a level not seen in 40 years.⁶ Core-PCE, the Federal Reserve’s preferred inflation gauge that excludes food and energy prices, reached 5.2% in January, prompting the FOMC to be increasingly committed to an interest-rate hike at its March 2022 meeting.⁷ In just 24 months, policymakers at the Federal Reserve have repositioned themselves from a tighter monetary policy stance into an accommodative one and back to a tightening one. According to the CME Fed Watch Tool, as of February 23rd, future markets are forecasting seven rate hikes by the end of the year — a sizable shift from even just one month earlier, when future markets were forecasting just four rate hikes in 2022. Volatile swings in the medium-term outlook are symptomatic of the rapid shifts in economic activity that categorized the past two years.

In December, Fed officials looked on cautiously at the near-term outlook as Omicron emerged as a roadblock to economic normalcy. After the Delta variant led to declining activity and sluggish job growth in mid-to-late summer 2021, some officials worried that Omicron, a more transmissible variant of COVID compared to previous waves, would hinder the recovery. While a significant wave of US cases followed, the Omicron wave proved to be less deadly and less straining on the US public health system than previous ones. As a result, an increasing number of US states and municipalities are relaxing masking and vaccine restrictions. On February 25th, the CDC introduced a new slate of guidelines that experts say shifts the US into the “endemic phase” of the pandemic. The new guidelines would put more than half of US counties and over 70% of the population in “low” or “medium” risk designations, bolstering the FOMC’s willingness to remove accommodative monetary policies.

THE GREY AREAS

Still, a measurable dose of uncertainty overhangs stock markets and the whole macroeconomy. The VIX, a volatility index captured by the Chicago Board Options Exchange, has remained stubbornly elevated since the onset of the pandemic. Despite moderately retracting during the fall of 2021, the annual average for the VIX in 2021 was 19.7, 27.7% above its 2019 average.⁸

The SVN Vanguard team can help with your office real estate needs. We can help you find the ideal office property for sale or lease. Interested in discussing a sale-leaseback? Contact us.

 

NATIONAL OVERVIEW SOURCES

1. Morning Consult, as of February 26th, 2022.
2. Moody’s Analytics REIS, report found here: https://cre.moodysanalytics.com/insights/cre-trends/q4-2021-office-first-glance/
3. https://www.osc.state.ny.us/files/reports/osdc/pdf/report-10-2022.pdf
4. Real Capital Analytics; Through Q4 2021
5. Real Capital Analytics; Through Q4 2021
6. Real Capital Analytics; Through Q4 2021
7. Real Capital Analytics; Throughout Q4 2021
8. Real Capital Analytics; Throughout Q4 2021
9. Real Capital Analytics; Throughout Q4 2021
10. Real Capital Analytics; Throughout Q4 2021
11. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
12. https://knpr.org/knpr/2022-02/northern-nevadas-economic-diversification-helped-soften-impact-pandemic-can-southern
13. Bureau of Labor Statistics
14. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
15. Bureau of Labor Statistics; Through December 2021
16. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
17. https://www.krem.com/article/money/economy/boomtown-inland-northwest/spokane-county-future-growth/293-6859dcc0-bd63-40ef-8f16-c483fa61c9e1
18. US Census Bureau
19. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
20. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
21. CoStar; Through Q4 2021. Note: Measured across the top-100 markets

 

MACRO ECONOMY SECTION SOURCES

1. US Bureau Economic Analysis

2. US Bureau Economic Analysis

3. US Bureau Labor Statistics

4. US Bureau Labor Statistics

5. US Bureau Labor Statistics

6. US Bureau Labor Statistics

7. US Bureau of Economic Analysis

8. Chicago Board Options Exchange

1. CONSUMER PRICE INDEX

• Consumer prices posted an 8.5% year-over-year increase through March, its fastest annual pace since December 1981, according to the Bureau of Labor Statistics. Month-over-month, prices rose 1.2%.
• Energy continues to place the most upward pressure on prices, rising by 32.0% since March 2021. The impact of the Russia-Ukraine War and the ratcheting-up of Western sanctions on Russian oil exports in the past several weeks saw energy prices rise by 11.0% month-over-month in March— dwarfing recent months of data.
• Food prices for American consumers also continue to rise, posting a 1.0% rise for the second-consecutive month. This threshold has only been reached twice since 1990— during the height of the Great Financial Crisis and at the pandemic’s onset in April 2020.
• Prices excluding food and energy have climbed by 6.5% over the past 12-months but saw a noteworthy slowdown in upward movement during March, rising by just 0.3% in the month after five-consecutive months of +0.5% increases.

2. PRODUCER PRICE INDEX

• Producer prices have risen by 11.2% over the past 12-months and by 1.4% month-over-month through March, an uptick from 0.9 % in February, according to the latest release of the Producer Price Index by the Bureau of Labor Statistics.
• Goods prices contributed the most to the increase in March, rising by 2.3% and matching last month’s pace—while services rose by a more modest 0.9% month-over-month.
• Over half of the increase in final demand goods prices in March was due to energy, which climbed by 5.7% in March after an 8.2% pace in February. Diesel fuel prices led all energy-related increases during the month, jumping by 20.4%.
• The major contributor to the rise in services was a 22.7% increase in margins for fuels and lubricants.
• Producer prices minus food, energy, and trade services rose 0.9% in March, its fastest pace since January 2021. Over the past 12-months, prices for final demand minus foods, energy, and trade services increased by 7.0%.

3. COMMERCIAL PROPERTY PRICE INDEX

• The US National All-Property Price Index, which produces a weighted measure of commercial real estate prices, rose by 19.4% over the year ending February 2022, according to Real Capital Analytics (RCA).
• Industrial properties experienced the fastest annual rise in prices among the major property sectors, climbing by 28.5% year-over-year. Notably, this is the fastest annual pace of increase for any individual property type since the index’s inception.
• Apartment prices registered their fastest increase on record, climbing by 23.2% year-over-year through February 2022. Cap rates for both Apartment and Industrial have cratered to new record lows.
• Retail prices, which were still suffering from declines in early 2021, posted a 21.1% increase from last year, the fastest increase for the sector on record.
• Price growth in the Office sector was mixed, with CBD Office rising by 4.7% year-over-year after falling for much of 2021. On the other hand, Suburban Office price growth has started to decelerate but continues to fare better than CBD office with an annual increase of 10.1%.

4. RETURN-TO-NORMAL: SHOPPING

• A recent Morning Consult analysis on consumer sentiment surrounding a return to normal shopping activity found that 71% of US adults are comfortable going to a shopping mall, a pandemic-high for the survey, which sat as low as 17% when initially polled in May 2020.
• A 31% share of American shoppers claim to be spending more now than before the pandemic, and while much of that has come in the form of e-commerce, improving comfortability with in-person shopping could help brick-and-mortar retailers capture some of that growth.
• 47% of respondents say they are spending more online than they were pre-pandemic, while 9% say they are spending less and the remaining staying flat.
• By income group, the percentage of households with increased spending is about flat, but an estimated 15% of adults with income of $50k or less claim to spend “much more” than before the COVID-19 pandemic. The share of those with annual incomes of $50k-$100k who are spending “much more” than before is at 11%, while the share of those with incomes of $100k or more stands at 10%.

5. OFFICE TO APARTMENT CONVERSIONS

• A new study by Moody’s Analytics REIS calls into question the post-pandemic trend of adaptive reuse for Office conversions into apartment properties.
• The study focuses on the New York City metro, where offices have faced some of the most disruption from remote working, and apartment demand is likely to exceed that of the office sector. Their findings estimate that only 3% of the nearly 1,100 office buildings tracked met the characteristics of viable apartment conversions, with most being current class B or C offices buildings.
• The report notes New York’s unique exposure to low-occupancy risk for offices, given its high inventory, high cost of living, and a high share of jobs that can be performed remotely. But even in the Big Apple, it may be far-fetched to believe that a conversion wave is on its way.
• A key metric in the study is that despite the massive underutilization of New York’s office market in 2021, the median selling price for office properties transacted in 2021 stood at $542/SF. The report’s analysts estimate that at 2021 apartment transaction rates and average market conversion costs, developers would need to seek offices available at $262/SF to maintain current-market profit margins. Moody’s Analytics REIS estimates that only about 20% of New York’s office buildings traded at $262/SF or lower in 2021.

6. RENTER MIGRATION TRENDS

• A new report by Storage Café shows that Dallas suburbs emerged as the biggest destination for renter migration in 2021, with the local cities of Irving and Lewisville, TX, attracting the largest renter share of the population.
• Overall, rentership interest has grown over the past year, with a 10% increase in applications from 2020 to 2021. Urban centers have seen a strong rebound from their early-pandemic headwinds, but smaller cities within metro areas remain the preferred destination of apartment seekers.
• Rising to 3rd was Orlando, with the DC suburb of Arlington, VA, and the Orlando-adjacent Palm Bay, FL, rounding out the top-5. The trend holds further down the list, with Denver-adjacent Boulder, CO, taking 6th. Atlanta arises as an outlier at 7th, while the NYC-adjacent Jersey City takes 8th. Tempe, AZ, and Washington DC round out the top-10 markets.
• Millennials are the most on-the-move generation, according to the report. They are 2.6 times more likely to move than Gen Z and 2.6 times more likely to leave than Baby Boomers. In first-place Irving, TX, 57% of new renters in the town were Millennials.

7. THE CONSTRUCTION LABOR MARKET

• Increased labor demand in the construction market has been almost synonymous with the pandemic-era economy, and with the US Bipartisan Infrastructure Law estimated to create demand for 3.2 million new non-residential construction jobs, the competition for labor is likely to increase.
• A new study by McKinsey & Company estimates that 300,000 to 600,000 new workers would need to enter the sector each year to keep pace with demand, equating to a 30% increase in the non-residential construction workforce.
• Competition is likely to continue to place upward pressure on wages, which grew by 7.9% over a two-year period between December 2019 and December 2021. Labor demand in similarly skilled sectors is also playing a factor, with wages in the Transportation & Warehousing sector seeing growth of 12.6% over the same period.
• There are several factors at play that could have an impact on the construction labor market as we move beyond the pandemic. Many Baby Boomers moved up their retirements during the pandemic, causing a spike in retirement rates that may normalize as we move further away from the public health crisis. Similarly, issues surrounding childcare, mental health, and a shift in employee values that became more apparent during the pandemic are areas of opportunity for the labor market, the report notes. Further, a structural skills mismatch remains at play, with a decline in the output from training programs in recent years and a decline in international migration.

8. JOB OPENINGS AND LABOR TURNOVER SURVEY (JOLTS)

• Job openings were little changed at 11.3 million on the last business day of February, according to the most recent data by the Bureau of Labor Statistics.
• Job openings increased in arts, entertainment, and recreation, seeing a boost in demand from a tourism rebound and a springtime activity uptick. Openings in education services and the Federal government also increased during the month. Job openings decreased in finance and insurance and nondurable goods manufacturing.
• Hires rose to 6.7 million in February, up from 6.4 million in January. Total separations were little changed at 6.1 million. Within separations, the quits rate stayed relatively steady at 2.9%, while layoffs and discharges stayed unchanged at a 0.9% rate. The quits rate among US workers remains near its all-time high and has consistently trended above its pre-COVID peak since February 2021.

9. CROSS-BORDER INVESTMENT

• Boston became the top destination for overseas capital in 2021, according to RCA’s cross-Border market rankings. Boston climbed nine spots from 2020 to claim the #1 spot, which Manhattan had held since 2010. According to RCA’s analysis, tech-centric investments in the area dominated much of the foreign inflows.
• Manhattan maintained the second-place ranking but notably registered a smaller volume of cross-border deals in 2021 than in 2020, the only metro among the top-10 to do so. Atlanta, Phoenix, and Dallas came in 3rd, 4th, and 5th, respectively, with large and liquid industrial and apartment environments attracting investor dollars.
• Orlando posted the largest jump of any metro between 2020 and 2021, climbing from the #38 spot to the #10 spot, with a quadruple-digit increase in cross-border deals.
• San Francisco, which had placed in the top-10 markets for 10 of the past 12-years, fell to the #14 spot in 2021.

10. TECH MARKETS TO WATCH

• During the pandemic, the Tech Industry has emerged as a key trendsetter for the outlook of Office demand, strategically increasing its footprint in various markets over the past two years as they embrace evolving office norms. A Moody’s Analytics REIS analysis shows that by the end of 2021, office rents in tech markets averaged $39.23/SF compared to a national average of just $21.36/SF. Since 1999, rents in tech markets have risen by 50.9% compared to an average of 40.0% nationally.
• The report qualifies “tech markets” as a metro area where computer and math employment make up 5% or more of total employment or if the metro has over 100,000 total jobs in those occupations. 15 US metros currently meet the report’s definition, which includes several large-gateway markets and smaller hubs such as Raleigh and Colorado Springs.
• Other cities are emerging as tech hubs. 12 US metros meet Moody’s Analytics REIS qualifying criteria, which measures metro-areas with at least 10% more growth for computer and math occupations than the national average since 2018, or at least 4% more median annual wage growth for those occupations than the national average since 2015. These include Ventura, Buffalo, Greensboro, Miami, Greenville, Knoxville, New Orleans, Norfolk, San Bernardino, Nashville, Lexington, and Wichita.

 

SUMMARY OF SOURCES

• (1) https://www.bls.gov/news.release/cpi.nr0.htm
• (2) https://www.bls.gov/news.release/ppi.nr0.htm
• (3) https://www.rcanalytics.com/us-prices-feb-2022-rcacppi
• (4) https://morningconsult.com/return-to-shopping/
• (5) https://cre.moodysanalytics.com/insights/cre-trends/office-to-apartment-conversions/
• (6) https://www.storagecafe.com/blog/us-renters-migrate-toward-feeder-cities-with-dallas-suburbs-biggest-renter-magnets/
• (7) https://www.mckinsey.com/business-functions/operations/our-insights/bridging-the-labor-mismatch-in-us-construction?cid=soc-web
• (8) https://www.bls.gov/news.release/jolts.nr0.htm
• (9) https://www.rcanalytics.com/chart-us-cross-border-ranks-2015-2021
• (10) https://cre.moodysanalytics.com/insights/cre-trends/tech-markets-to-watch-and-why/

National Overview

THE RETAIL SECTOR was already steeped in transformational shakeout prior to the pandemic, rightsizing to how shopping is done in an increasingly digital economy. In what has already been a decade-long process, most analysts thought it would be a decade more before we started to see a turnaround. Of course, the pandemic has updated those timelines dramatically. SVN® Retail Product Chair Ryan Imbrie, CCIM notes that the retail sector “landed on the unfavorable side of COVID-19’s lopsided impact on commercial real estate.” While industrial properties benefited from the surge in online spending, Imbrie says the pandemic advanced the retail sector’s “long slide” with mounting store closings and rising vacancy.

As the old Winston Churchill quote goes, “If you’re going through hell, keep going.” In 2020, with physical restrictions on retail in place, a significant portion of retailing shifted from in-person to online. E-commerce’s share of retail sales has grown by an average of 0.5 percentage points annually since the start of the millennium, but between Q1 and Q2 2020, it shot up from 11.4% to 15.7%¹— quantitative proof that Americans were not only buying toilet paper and DIY arts and crafts during the shutdown. Thankfully for the Retail sector, shoppers returned to the aisles in late 2020 and continued doing so throughout 2021. Through Q4 2021, e-commerce’s share of retail sales has fallen down to 12.9%.²

Overall, monthly retail sales reached their highest level on record in January 2022, coming in at a seasonally adjusted $650 billion for the month.³ The sector “has experienced some bright spots where tenants are thriving as seen in grocery-anchored properties, home improvement, and dollar stores,” remarks Mr. Imbrie. Over the short term, the sector should continue to benefit from an apparent shift away from services and towards the consumption of physical goods that have remained present even as the country has lifted most pandemic-era restrictions.

The Retail sector was often compared to a patient on life support heading into the pandemic, and the shock of the shutdown was widely thought to be a knockout blow. Interventions by the Federal Government, namely the Payroll Protection Program, helped to limit the scale of distress. According to Trepp, levels of distress in the sector continue to improve, though investors remain cautious. Through January 2022, the CMBS delinquency rate has improved to 8% — down from 18% during the pandemic’s crisis peak, though still above the sub-4% level where it was entering 2020.⁴

Still, for the first time in a long time, having a healthy dose of optimism for the Retail sector feels appropriate. According to OpenTable’s COVID recovery tracking, the US is arriving right back at its pre-pandemic benchmark for restaurant reservations almost two years after the initial shut down. Moreover, after adjusting for inflation, the value of new commercial construction put in place, a broad category that includes most retail and wholesaling activities, has trended downward since 2018. With less new supply entering the Retail sector, the macro task of repositioning existing stock becomes a bit less herculean. Retail may not be out of the woods just yet, but after following Mr. Churchill’s advice, the temperature dial is starting to improve.

 

Financial Performance

TRANSACTION VOLUME

Transaction volumes in the retail sector surged in 2021, following a trend observed throughout all commercial real estate. According to Real Capital Analytics, deal volume for retail assets reached $76.8 billion last year — an 88% improvement from 2020’s pandemic-muted total and 14.1% better than 2019’s mark.⁵ While new deal activity in 2021 remained down from 2015’s record peak by $13.5 billion, last year saw the most retail deal volume since 2018.⁶

As was the case in 2020, the Retail sector was a mixed bag of outcomes across its sub-property types. Big Box Retail assets saw a resurgence as new deal activity rose by 88% to $2.6B — roughly equivalent to 2019’s and 2020’s totals combined.⁷ Lifestyle/Power Centers also saw a large uptick in 2021, posting $5.8 billion of deal volume, marking its highest total since 2014.⁸ Mall assets have continued to see deal volumes crater as the maligned product type posted just $1.9 billion of trades last year, declining 51% from 2020.⁹ Drug store assets saw muted growth in 2021 as deal volume grew year-over-year by just 19%.¹⁰ However, Drug Store’s lackluster (by comparison) growth total is a function of the product type’s success in 2020, as it was the only asset type seeing investment growth during the pandemic slowdown.

CAP RATES AND PRICING

Cap rates for Retail properties continued to post declines in 2021. Through Q4 2021, cap rates are down 6 bps from Q3 and 20 bps from the same time last year.¹¹ Again, retail sub-types saw dramatically idiosyncratic cap rate movements through 2021. Unsurprisingly, Malls were the only sub-asset type to post rising property yields in 2021, growing 47 bps year-over-year through Q4 2021.¹² Grocery-anchored followed next, with the property type posting just 11 bps of cap rate compression last year.¹³ On the other side of the spectrum are Anchored and Big Box retail assets, which posted cap rate compression totals in 2021 of 42 bps and 49 bps, respectively.¹⁴

On the pricing front, retail assets across the board saw improving trading valuations in 2021. The average year-over-year price appreciation for all retail assets through Q4 2021 was 24.7%.¹⁵ Moreover, retail assets generally are trading at valuations 19.0% above where they stood pre-pandemic and 18.1% above their previous all-time high (2016).¹⁶ The best performing retail sub-types by price appreciation in 2021 were Centers and Unanchored assets, which saw valuations grow by 30.5% and 22.6%, respectively.¹⁷

Markets Making Headlines

THE SUNBELT EXPANSION

From the coastlines of Florida to the outskirts of the Colorado River, the retail sector in the Sun Belt is cashing in on consumers migrating into the Southern portion of the country. Positive momentum is stretching across state lines and time zones. Nashville closed out 2021 as one of the nation’s top-performing retail markets, posting the third-highest annual rent growth totals (8.4%).¹⁸ While Nashville is heralded as the music capital of the country, its tech sector is singing the sweetest tunes of all. Nashville’s expanding tech base is forecast to double the metro’s employment growth rate in the coming years,¹⁹ bringing more residents into the area and putting additional upward pressure on available space. Las Vegas, another entertainment industry heavyweight that has cultivated its tech sector, is experiencing a similar trajectory of success. Retail market rents in Sin City finished up 10.0% to close out 2021, the top mark in the country.²⁰

Three of the four largest increases in Retail occupancy last year were found in the Sun Belt — two of which were in Florida.²¹ Baton Rouge, LA led the entire country with the largest one-year occupancy rate increase.²² Between Q4 2020 and Q4 2021, occupancy rates in

Baton Rouge jumped from 91.4% to an extremely tight 96.8% — an improvement of 5.4 percentage points.²³ Moving down the list, Daytona Beach, FL, posted an occupancy rate improvement of 1.9 percentage points, and Fort Myers, FL, rose by 1.4 percentage points.²⁴ Commenting on the Daytona Beach and Ormond Beach area, Carl Lentz of SVN | Alliance Commercial Real Estate Advisors notes that “explosive residential growth and retail traction along the LPGA corridor have been the primary drivers of the momentum.” While warm winters are a consistent selling point throughout the Sunshine State, Daytona’s retail sector has also benefited from its proximity to the region’s booming blend of suburban amenities, a dominating feature of post-pandemic real-estate growth.

Mr. Lentz goes on to mention that “as local and regional retailers continue to see success, many national retailers are paying attention and entering the market.”

Macro Economy

ECONOMIC GROWTH

The US economy has experienced a robust recovery from the initial shock of COVID-19. A pandemic-driven shift in consumption away from services and into goods, boosted by a sweeping stimulus effort, reconditioned our economy well before an off-ramp from the public health crisis was in sight. By Q3 2020, inflation-adjusted GDP shrugged off its worst quarterly performance on record to record its best, a 33.4% annualized growth rate.¹ In 2021, the total nominal value of all consumption and production reached $23.0 trillion, a 9.1% increase above 2020’s total and 6.9% above 2019’s total. After adjusting for inflation, the US economy is 3.2% larger than its pre-pandemic peak.²

The foundation of the economy’s rebound has been a swift labor market recovery. At its April 2020 peak, the official unemployment total reached a staggering 23 million people.³ By the start of 2021, the unemployment total had improved to just 10.1 million people out of work.⁴ Over the past year, this level has come down to 6.5 million people, less than one million above the pre-pandemic level of 5.7 million.⁵

 

INFLATION & MONETARY POLICY

One year ago, the market consensus was that the Federal Open Market Committee (FOMC) would not begin a monetary policy tightening cycle until 2023. However, as demand surges in the face of gummed-up supply chains, rampant inflation has emerged at center stage, forcing shifting guidance from policymakers.

After decades of tepid price increases, in January 2022, the Consumer Price Index (CPI) reached 7.5%, a level not seen in 40 years.⁶ Core-PCE, the Federal Reserve’s preferred inflation gauge that excludes food and energy prices, reached 5.2% in January, prompting the FOMC to be increasingly committed to an interest-rate hike at its March 2022 meeting.⁷ In just 24 months, policymakers at the Federal Reserve have repositioned themselves from a tighter monetary policy stance into an accommodative one and back to a tightening one. According to the CME Fed Watch Tool, as of February 23rd, future markets are forecasting seven rate hikes by the end of the year — a sizable shift from even just one month earlier, when future markets were forecasting just four rate hikes in 2022. Volatile swings in the medium-term outlook are symptomatic of the rapid shifts in economic activity that categorized the past two years.

In December, Fed officials looked on cautiously at the near-term outlook as Omicron emerged as a roadblock to economic normalcy. After the Delta variant led to declining activity and sluggish job growth in mid-to-late summer 2021, some officials worried that Omicron, a more transmissible variant of COVID compared to previous waves, would hinder the recovery. While a significant wave of US cases followed, the Omicron wave proved to be less deadly and less straining on the US public health system than previous ones. As a result, an increasing number of US states and municipalities are relaxing masking and vaccine restrictions. On February 25th, the CDC introduced a new slate of guidelines that experts say shifts the US into the “endemic phase” of the pandemic. The new guidelines would put more than half of US counties and over 70% of the population in “low” or “medium” risk designations, bolstering the FOMC’s willingness to remove accommodative monetary policies.

THE GREY AREAS

Still, a measurable dose of uncertainty overhangs stock markets and the whole macroeconomy. The VIX, a volatility index captured by the Chicago Board Options Exchange, has remained stubbornly elevated since the onset of the pandemic. Despite moderately retracting during the fall of 2021, the annual average for the VIX in 2021 was 19.7, 27.7% above its 2019 average.⁸

The SVN Vanguard team can help with your retail real estate needs. We can help you find the ideal retail property for sale or lease. Interested in discussing a sale-leaseback? Contact us.

 

NATIONAL OVERVIEW SOURCES

1. US Census Bureau
2. US Census Bureau
3. US Census Bureau
4. https://www.trepp.com/hubfs/Trepp%20Retail%20Report%20February%202022.pdf?hsCtaTracking=8cec15d8-2d6d-4a7e-b3be-47518c19f0f8%7C7edd6f4f-a67b-476b-aaec-43ab495ce73c
5. Real Capital Analytics; Through Q4 2021
6. Real Capital Analytics; Through Q4 2021
7. Real Capital Analytics; Through Q4 2021
8. Real Capital Analytics; Through Q4 2021
9. Real Capital Analytics; Through Q4 2021
10. Real Capital Analytics; Through Q4 202
11. Real Capital Analytics; Throughout Q4 2021
12. Real Capital Analytics; Throughout Q4 2021
13. Real Capital Analytics; Throughout Q4 2021
14. Real Capital Analytics; Throughout Q4 2021
15. Real Capital Analytics; Throughout Q4 2021
16. Real Capital Analytics; Throughout Q4 2021
17. Real Capital Analytics; Throughout Q4 2021
18. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
19. https://technologycouncil.com/wp-content/uploads/2021/11/2021-State-of-Middle-TN-Tech.pdf?utm_source=Sailthru&utm_medium=email&utm_campaign=2021.11.22%20NASH&utm_term=NASHtoday%20Subscribers%20-%20MASTER
20. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
21. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
22. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
23. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
24. CoStar; Through Q4 2021. Note: Measured across the top-100 markets

 

MACRO ECONOMY SECTION SOURCES

1. US Bureau Economic Analysis
2. US Bureau Economic Analysis
3. US Bureau Labor Statistics
4. US Bureau Labor Statistics
5. US Bureau Labor Statistics
6. US Bureau Labor Statistics
7. US Bureau of Economic Analysis
8. Chicago Board Options Exchange

 

National Overview

MULTIFAMILY

Aside from “location, location, location,” the most cliché phrase in real estate may be “people will always need somewhere to live.” Its overuse is a symptom of its accuracy. The Multifamily sector had every excuse available to post a down year in 2021, yet its performance proved to be nothing short of phenomenal. As noted by SVN® Multifamily Chair Reid Bennett, CCIM, the sector faced “unknowns of the pandemic, rent moratoriums, interest rate hike threats, and inflation at a four-decade high.” Nonetheless, markets across the country range from nearly fully recovered to well ahead of where they were two years ago before the pandemic.

A key reason why rental housing has seen such widespread success in recent years is that the US has undersupplied enough new stock to keep pace with growing demand. Between 2002 and 2010, the amount of vacant housing supply available for sale or rent has typically equaled between 4% and 6% of the total number of US households. ¹ Through Q4 2021, after more than a decade of declines, this excess housing supply has slumped to just 2.6%. In other words, supply is (very) tight.²

A major concern when the pandemic started was whether renter households would be able to make their monthly payments on time, if at all. According to the NMHC, rent collections in professionally managed units dipped marginally during the beginning of the pandemic but not enough to be categorized as distress. On the other hand, rental units operated by independent, mom-and-pop landlords proved to be far more sensitive to the shutdown’s economic effects. According to Chandan Economics and RentRedi, on-time rental payments sank by more than 9 percentage points between March and May 2020. Still, despite the pandemic’s multiple waves, 2021 was a year of recovery for small apartment operators. Through January 2022, on-time rent collections were back in line with where they were entering the pandemic.

For the year ahead, there is at least some concern over how the sector will absorb higher interest rates as the Federal Reserve readies multiple rate hikes. Since 2010, the number of rented housing units in the US has expanded by about 13%.³ Over the same time, the amount of outstanding multifamily debt in the country has more than doubled (+114%).⁴ In short, the US rental housing sector has become substantially

more leveraged over the past decade. Given the relative increase in indebtedness and the specter for higher debt servicing costs on the horizon, this is an area that deserves some risk consideration in the year ahead.

Still, all else equal, the balance of factors broadly supports continued investment success in the US rental housing sector in 2022. With an eye on the horizon, Mr. Bennett identifies three underlying factors that should strengthen the sector in 2022:

• A high number of new entrants into the space (including retail buyers, office buyers, and multifamily syndicators) are competing with an already crowded pool of multifamily buyers.
• Household formations and Baby Boomers re-entering the rental pool will continue to support stiff competition for incoming supply.
• This year (2022) will be the last year of 100% bonus depreciation, where many buyers will be overextending to receive this benefit for themselves and their investors.

 

Financial Performance

TRANSACTION VOLUME

If 2020 was the year where dealmakers were sitting on the sidelines, then 2021 was the year where there were too many players on the field. According to Real Capital Analytics, annual transaction volume in 2021 totaled an incredible $332B — a 128% surge from 2020’s pandemic-impacted total of $147B. Moreover, the 2021 total stands as a 74% increase over the previous all-time high set in 2019.⁵ While the entire year was marked by consistently higher transaction volumes, the year-end record totals are largely a function of an unprecedented spike in deal activity in Q4. In the last three months of the year, RCA tracked $149B in apartment sales, more than any two other quarters combined last year.

CAP RATES AND PRICING

Cap rates for Multifamily properties continued to sink in 2021, reaching new a new all-time low of 4.5% in Q4.⁶ Similarly, the spread between apartment cap rates and the 10-year Treasury, a measure of the sector’s perceived riskiness, fell to 298 bps in Q4 2021 — the lowest level since Q1 2019.⁷ In total, apartment cap rates fell 48 bps between the start and the end of 2021, marking the most significant annual cap rate decline since before the Great Financial Crisis (GFC). With benchmark interest rates set to rise in 2022 as the Federal Reserve initiates its monetary tightening cycle, some upward pressure on cap rates may be on the horizon.

Declining cap rates in 2021 led to some significant upward pressure on pricing. As part of Real Capital Analytics’ post-2001 tracking, never have apartment asset values grown faster than 15% on an annual basis— that is, of course, until 2021. As of Q4 2021, average apartment unit prices finished the year at $ 213,761, a record-breaking 19.6% higher than a year earlier.⁸

Across subsectors, Garden-style apartment units, which tend to be in more suburban locations, once again experienced the most pricing growth in 2021. These Garden units saw asset prices rise by an incredible 21.8% last year, besting the sector-wide average by 2.2 percentage points.⁹ Meanwhile, Mid/High-rise apartment units saw the least robust price appreciation of all subsectors in 2021, growing by just 10.8%.¹⁰ Still, the annual improvement for the most urban-centric property type should not be overlooked. While Mid/High-rise units saw the least amount of price appreciation last year, they saw the most relative improvement. To close out 2020, valuations for Mid/High-rise units sank 3.5% year-over-year, making the 2021 mark a swing of 14.2 percentage points.¹¹

 

Markets Making Headlines

BLAZING HOT IN THE SUNSHINE STATE

The Sun Belt, and more specifically, the southeastern portion of the country, continues to be the largest hotbed for population growth and new housing demand. According to the latest US Census Bureau data, the South added roughly 816,000 new residents in 2021 alone. On a state-by-state basis, Florida remains the epicenter of the Southeast’s dominating success. In the last decade, the Sunshine State has come a long way to rebrand itself away from the Heaven’s Waiting Room nicknames of the past. Naples, FL, saw the single largest jump in market rents in 2021. According to CoStar, rents in Naples averaged $1,527 at the end of 2020. Fast forward to end the end of 2021, and average rents were nearly 43% higher at $2,183.¹² Heading up Florida’s west coast, there are more rent growth accolades to go around. Fort Myers and Tampa ranked fourth and fifth for major metros posting the most rent growth last year, with rent growth coming in at 30.4% and 24.8%, respectively.¹³

Cut over to Florida’s east coast, and the story is effectively the same. According to Tim Davis, CCIM of SVN | Alliance Commercial Real Estate Advisors, “the housing supply shortage continues to grow in the Daytona Beach market area, generating continued demand for rental product.” Mr. Davis notes that new rental housing is needed across a number of different sub-asset types, including “traditional garden-style development, as well as cottages and BFR options.” In 2021, Daytona beach saw the country’s third-largest rise in Multifamily occupancy rates and the fifth-largest increase in asset valuations.¹⁴ Florida’s east coast success is attributable to “job growth along the I-95 corridor related to work from home policies, manufacturing, distribution, and private space exploration,” according to Mr. Davis.

Beyond the Sunshine State, the rest of the Southeast is also seeing widespread success. Durham, NC posted a 5.0 percentage point increase in its market-wide Multifamily occupancy rate through the end of last year, the fourth-best mark in the country.¹⁵ Savannah, GA, saw the tenth-largest increase in Multifamily rents across the US, with prices rising an appreciable 21.4% over the year ending Q4 2021.¹⁶

OFF THE COAST, REASONS TO BOAST

A general theme throughout the other top-performing multifamily markets around the country is that they tend to be ascending secondary metros that are more affordable and off either coast (excluding Florida). The two markets experiencing the highest levels of rent growth in the country outside of Florida are Las Vegas and Phoenix, which saw growth totals of 23.3% and 21.8% last year, respectively.¹⁷

Austin in recent years has gained the status of a “revolving door” market, a title given by Apartment List for its heavy flow of both inbound and outbound renters. As of Q3 2021, Apartment List reports Austin as the sixth-highest share of renters looking to jump to a new metro, as well as the seventh-highest share of inbound searches coming from renters elsewhere. Generally, this lines up with Austin’s profile rise as a young, tech-centric city where early-career professionals call home for a few years. Rent growth in Austin was robust last year, with prices growing 20.6%.¹⁸

Head due north from the Lone Star, and you’ll find another State seeing a fair share of success: Oklahoma. According to Raymond Lord of SVN OAK Realty Advisors, in 2021, “the Oklahoma City and Tulsa Multifamily market like many US Markets was incredibly active in apartment transactions.” Mr. Lord goes on to note that “Oklahoma City set a record at $961.8 million in 2021, […] [surpassing] the previous record of $541.3 in 2019.” In Tulsa, the story was more of the same, as it “also had record transactions in 2021 at $503.6 million versus $208.6 million in 2020.”

Macro Economy

ECONOMIC GROWTH

The US economy has experienced a robust recovery from the initial shock of COVID-19. A pandemic-driven shift in consumption away from services and into goods, boosted by a sweeping stimulus effort, reconditioned our economy well before an off-ramp from the public health crisis was in sight. By Q3 2020, inflation-adjusted GDP shrugged off its worst quarterly performance on record to record its best, a 33.4% annualized growth rate.¹ In 2021, the total nominal value of all consumption and production reached $23.0 trillion, a 9.1% increase above 2020’s total and 6.9% above 2019’s total. After adjusting for inflation, the US economy is 3.2% larger than its pre-pandemic peak.²

The foundation of the economy’s rebound has been a swift labor market recovery. At its April 2020 peak, the official unemployment total reached a staggering 23 million people.³ By the start of 2021, the unemployment total had improved to just 10.1 million people out of work.⁴ Over the past year, this level has come down to 6.5 million people, less than one million above the pre-pandemic level of 5.7 million.⁵

INFLATION & MONETARY POLICY

One year ago, the market consensus was that the Federal Open Market Committee (FOMC) would not begin a monetary policy tightening cycle until 2023. However, as demand surges in the face of gummed-up supply chains, rampant inflation has emerged at center stage, forcing shifting guidance from policymakers.

After decades of tepid price increases, in January 2022, the Consumer Price Index (CPI) reached 7.5%, a level not seen in 40 years.⁶ Core-PCE, the Federal Reserve’s preferred inflation gauge that excludes food and energy prices, reached 5.2% in January, prompting the FOMC to be increasingly committed to an interest-rate hike at its March 2022 meeting.⁷ In just 24 months, policymakers at the Federal Reserve have repositioned themselves from a tighter monetary policy stance into an accommodative one and back to a tightening one. According to the CME Fed Watch Tool, as of February 23rd, future markets are forecasting seven rate hikes by the end of the year — a sizable shift from even just one month earlier, when future markets were forecasting just four rate hikes in 2022. Volatile swings in the medium-term outlook are symptomatic of the rapid shifts in economic activity that categorized the past two years.

In December, Fed officials looked on cautiously at the near-term outlook as Omicron emerged as a roadblock to economic normalcy. After the Delta variant led to declining activity and sluggish job growth in mid-to-late summer 2021, some officials worried that Omicron, a more transmissible variant of COVID compared to previous waves, would hinder the recovery. While a significant wave of US cases followed, the Omicron wave proved to be less deadly and less straining on the US public health system than previous ones. As a result, an increasing number of US states and municipalities are relaxing masking and vaccine restrictions. On February 25th, the CDC introduced a new slate of guidelines that experts say shifts the US into the “endemic phase” of the pandemic. The new guidelines would put more than half of US counties and over 70% of the population in “low” or “medium” risk designations, bolstering the FOMC’s willingness to remove accommodative monetary policies.

THE GREY AREAS

Still, a measurable dose of uncertainty overhangs stock markets and the whole macroeconomy. The VIX, a volatility index captured by the Chicago Board Options Exchange, has remained stubbornly elevated since the onset of the pandemic. Despite moderately retracting during the fall of 2021, the annual average for the VIX in 2021 was 19.7, 27.7% above its 2019 average.⁸

The SVN Vanguard team can help with your multifamily real estate needs. We can help you find the ideal multifamily property for sale or lease. Interested in discussing a sale-leaseback? Contact us.

 

NATIONAL OVERVIEW SOURCES

1. Chandan Economics analysis of US Census Bureau Data
2. Chandan Economics analysis of US Census Bureau Data
3. US Census Bureau
4. https://www.osc.state.ny.us/files/reports/osdc/pdf/report-10-2022.pdf
5. Real Capital Analytics; Through Q4 2021
6. Real Capital Analytics; Through Q4 2021
7. Real Capital Analytics; Through Q4 2021
8. Real Capital Analytics; Through Q4 2021
9. Real Capital Analytics; Through Q4 2021
10. Real Capital Analytics; Through Q4 2021
11. Real Capital Analytics; Through Q4 2021
12. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
13. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
14. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
15. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
16. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
17. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
18. CoStar; Through Q4 2021. Note: Measured across the top-100 markets

MACRO ECONOMY SECTION SOURCES

1. US Bureau Economic Analysis
2. US Bureau Economic Analysis
3. US Bureau Labor Statistics
4. US Bureau Labor Statistics
5. US Bureau Labor Statistics
6. US Bureau Labor Statistics
7. US Bureau of Economic Analysis
8. Chicago Board Options Exchange

NATIONAL OVERVIEW

INDUSTRIAL

“All good things must come to an end,” said nobody in the Industrial sector in 2021. As the US economy continues to modernize and consumer behavior evolves, the Industrial sector has stood as a winner at every step along the way. Heading into 2021, the National Association for Industrial and Office Parks (NAIOP) forecasted that net absorption on the Industrial sector would total 329.5 million square feet for the calendar year — a figure that would have represented a 28% increase over the previous record high. When all was said and done, the Industrial sector posted net absorption totals of 432.5 million square feet, blowing past the previous record by more than 68%.¹ With an eye on the horizon, NAIOP anticipates that fervent demand will continue to outpace new supply leading, with net absorption forecast at a robust 401.4 million square feet.
Even as COVID restrictions became less widespread in 2021 and consumers returned to shopping aisles, in absolute terms, last year was the most active for e-commerce consumption on record. In 2020, e-commerce retail sales jumped by 32%, landing at $759.6 billion.² In 2021, e-commerce retail sales grew by 14.6%, coming in at $870.7. Moreover, 2021’s e-commerce sales growth rate of 14.6% is well in line with the pre-pandemic pattern.³ In the five years leading up to 2020, e-retailing grew by an average of 14.2% per year, while never growing slower than 13.4% or faster than 15.4%.⁴

Hefty demand growth coming from the steady surge of e-retailing has sent prices in the sector soaring. Noted by SVN® Industrial Product Chair Curt Arthur, SIOR, “the price index for industrial properties rose a record 28.1% from a year ago, the fastest annual rate among the major property sectors, according to Real Capital Analytics.” Further, transaction activity reached a fever pace towards the end of last year, as December alone “was the most active month in US history with one-month sales exceeding annual totals from 2008-2011.”

Pushing our e-shopping carts to the side, it isn’t just e-retailing distribution facilities that are responsible for Industrial’s record year — manufacturing also had a significant role to play. The Board of Governor’s Industrial Production Index for Manufacturing, which measures the inflation-adjusted output of manufacturing activities, saw a steep drop-off during the pandemic lockdowns, with production declining by nearly 16% month-over-month in April 2020. Now, as of January 2022, manufacturing production has made up all its lost ground, and output currently stands at its highest level since Fall 2018.⁵

 

Financial Performance

TRANSACTION VOLUME

The Industrial sector maintained its solid momentum in 2021, posting the most transaction volume of any commercial property type other than Multifamily. For the calendar year, according to Real Capital Analytics, $173.6 billion of Industrial assets changed hands in 2021. Compared to 2020 levels, last year’s transaction volume totals rose by about 63% — the second-lowest mark across the core-four commercial property types.⁶ However, the only reason why Industrial’s 2021 transaction growth rate stands below Retail and Multifamily is because of its strong 2020, despite macroeconomic headwinds. In 2020, sans Industrial, all CRE property types saw declining transaction volumes between 24% and 38%.⁷ Meanwhile, Industrial only took a slight step back, declining by just over 9% in 2020.⁸ Compared to 2019’s previous peak, 2021’s transaction volume totals are up by an impressive 48%.⁹

CAP RATES AND PRICING

If Sir Isaac Newtown had been invested in the Industrial sector, perhaps the phrase would have been “what goes up must go down, and for Industrial cap rates, what’s already down can just keep on going.” Measured year-over-year, Industrial cap rates have fallen every quarter since Q3 2010.¹⁰ Through Q4 2021, Industrial cap rates are down to a lowly 5.4% — a decline of 32 bps from one year ago.¹¹ Across the different industrial sector sub-types, Warehouse assets saw the most significant cap rate compression in 2021, declining by a weighty 42 bps, bringing cap rates down to 5.3%.¹² Single Tenant Industrial space also saw steady cap rates declines, with yielding falling 31 bps year-over-year to average 5.5% in Q4 2021.¹³ Despite the rebound in manufacturing activity measured in 2021, cap rates for Flex Industrial space ticked up marginally last year, rising by 8 bps to land at 6.1% through Q4 2021.¹⁴

With cap rates declining to new all-time lows in 2021, significant pricing pressure was felt throughout the industrial sector. Measured year-over-year on a price per square foot basis, valuations ended 2021 30.8% higher than they were one year ago — the highest mark of all commercial real estate property types.

 

Markets Making Headlines

1-HOUR DELIVERY LOCATION, LOCATION, LOCATIONS

Across most commercial real estate verticals, Gateway markets have lagged the rest of the pack during the pandemic. Still, major metros have not lost their shine when it comes to Industrial CRE performance. Even as residents have left costly coastal metros like New York and Los Angeles on the margins, these markets remain behemoths of population agglomeration. As of the 2020 Census, there were more than 20 million people living in the New York MSA and more than 13 million living in the Los Angeles MSA. No other metro area is above 10-million residents.

With respect to Industrial space demand in major markets, in short, the conversion from physical retail to e-retail has far outweighed any marginal population losses. In Northern New Jersey, an area that sits with the Greater New York Metropolitan Area, Industrial rents per square foot surged by 14.1% last year, according to CoStar — the second-best reading in the country. From a valuation perspective, the North New Jersey area saw the third-highest levels of asset appreciation last year, growing 19.8%.¹⁵

Moving over to the West Coast, the Inland Empire — an expansive semi-urban area directly adjacent to Los Angeles— saw the second-highest levels of Industrial asset appreciation last year, with prices growing by 20.8% year-over-year.¹⁶ Moreover, the Inland Empire finished 2021 with the seventh-highest occupancy rate (96.4%) of all tracked markets.¹⁷ Ventura and Los Angeles follow as the eighth and ninth-highest Industrial occupancy rates in the country, reflecting overall strength throughout the Greater Los Angeles area. According to David Rich of SVN | Rich Investment Real Estate Partners, “Industrial remains the healthiest commercial real estate sector in Los Angeles – outperforming even multifamily in terms of price and rent appreciation.” Mr. Rich goes on to note that in Los Angeles, “demand is expected to continue into [mid-2022], due in large part to accelerated online consumer consumption from the COVID economy.”

In NAIOP’s Q1 2022 Forecast Report, the researchers note that concerns over future space needs in the future are spurring competition for available space today. In dense markets such as the metropolitan areas surrounding New York and Los Angeles, where space is limited, the effect is bottlenecking of prices. These observations are shared by Mr. Rich, who remarks that “area growth restrictions and increased developments costs [in Los Angeles] will contribute to strong property values and rental rates beyond 2022.”

THE WESTERN EDGE OF EASTERN TIME

Head west a few hundred miles from the eastern seaboard, and you’ll run into an inter-region set of markets that all straddle similar longitudes. Markets such as Atlanta, Knoxville, and Columbus may not share much in common other than their time zones, but they all stood out as top performers in the Industrial sector last year.

Columbus, OH, was one of the most consistent booming Industrial markets in 2021, posting the tenth highest increase in market rents (+11.8%) and the tenth highest increase in Industrial occupancy rates (+2.7 percentage points).¹⁸ Doug Wilson of SVN | Wilson Commercial Group, LLC notes that “the definition of “’ Industrial real estate”’ is evolving rapidly in Columbus. There are few industrial operations any more here, but there are many distribution centers. And those are complemented by the prevalence of massive fulfillment centers. And add to that, large data centers to round out the new wave of industrial “sized” properties populating this market. The construction pipeline of speculative industrial buildings is surging to about 13–15 million SF, while vacancy is a mere 2%-3%.”

Atlanta posted significant Industrial sector rent increases in 2021, coming in at the fifth-highest annual increase in the country.¹⁹ Closing out last year, according to CoStar, Industrial space in Atlanta was renting for an average of $7.26 per square foot— an increase of 12.7% year-over-year.²⁰ No market had a higher occupancy rate than Knoxville, TN, in Q4 2021, coming in at a stellar 99.0%.21

 

Macro Economy

ECONOMIC GROWTH

The US economy has experienced a robust recovery from the initial shock of COVID-19. A pandemic-driven shift in consumption away from services and into goods, boosted by a sweeping stimulus effort, reconditioned our economy well before an off-ramp from the public health crisis was in sight. By Q3 2020, inflation-adjusted GDP shrugged off its worst quarterly performance on record to record its best, a 33.4% annualized growth rate.¹ In 2021, the total nominal value of all consumption and production reached $23.0 trillion, a 9.1% increase above 2020’s total and 6.9% above 2019’s total. After adjusting for inflation, the US economy is 3.2% larger than its pre-pandemic peak.²

The foundation of the economy’s rebound has been a swift labor market recovery. At its April 2020 peak, the official unemployment total reached a staggering 23 million people.³ By the start of 2021, the unemployment total had improved to just 10.1 million people out of work.⁴ Over the past year, this level has come down to 6.5 million people, less than one million above the pre-pandemic level of 5.7 million.⁵

 

INFLATION & MONETARY POLICY

One year ago, the market consensus was that the Federal Open Market Committee (FOMC) would not begin a monetary policy tightening cycle until 2023. However, as demand surges in the face of gummed-up supply chains, rampant inflation has emerged at center stage, forcing shifting guidance from policymakers.

After decades of tepid price increases, in January 2022, the Consumer Price Index (CPI) reached 7.5%, a level not seen in 40 years.⁶ Core-PCE, the Federal Reserve’s preferred inflation gauge that excludes food and energy prices, reached 5.2% in January, prompting the FOMC to be increasingly committed to an interest-rate hike at its March 2022 meeting.⁷ In just 24 months, policymakers at the Federal Reserve have repositioned themselves from a tighter monetary policy stance into an accommodative one and back to a tightening one. According to the CME Fed Watch Tool, as of February 23rd, future markets are forecasting seven rate hikes by the end of the year — a sizable shift from even just one month earlier, when future markets were forecasting just four rate hikes in 2022. Volatile swings in the medium-term outlook are symptomatic of the rapid shifts in economic activity that categorized the past two years.

In December, Fed officials looked on cautiously at the near-term outlook as Omicron emerged as a roadblock to economic normalcy. After the Delta variant led to declining activity and sluggish job growth in mid-to-late summer 2021, some officials worried that Omicron, a more transmissible variant of COVID compared to previous waves, would hinder the recovery. While a significant wave of US cases followed, the Omicron wave proved to be less deadly and less straining on the US public health system than previous ones. As a result, an increasing number of US states and municipalities are relaxing masking and vaccine restrictions. On February 25th, the CDC introduced a new slate of guidelines that experts say shifts the US into the “endemic phase” of the pandemic. The new guidelines would put more than half of US counties and over 70% of the population in “low” or “medium” risk designations, bolstering the FOMC’s willingness to remove accommodative monetary policies.

THE GREY AREAS

Still, a measurable dose of uncertainty overhangs stock markets and the whole macroeconomy. The VIX, a volatility index captured by the Chicago Board Options Exchange, has remained stubbornly elevated since the onset of the pandemic. Despite moderately retracting during the fall of 2021, the annual average for the VIX in 2021 was 19.7, 27.7% above its 2019 average.⁸

The SVN Vanguard team can help with your industrial real estate needs. We can help you find the ideal industrial property for sale or lease. Interested in discussing a sale-leaseback? Contact us.

 

NATIONAL OVERVIEW SOURCES

1. NAIOP
2. US Census Bureau
3. US Census Bureau
4. US Census Bureau

5. Board of Governors of the Federal Reserve

6. Real Capital Analytics; Through 2021
7. Real Capital Analytics; Through 2021
8. Real Capital Analytics; Through 2021
9. Real Capital Analytics; Through 2021
10. Real Capital Analytics; Through Q4 2021
11. Real Capital Analytics; Through Q4 2021

12. Real Capital Analytics; Through Q4 2021
13. Real Capital Analytics; Through Q4 2021
14. Real Capital Analytics; Through Q4 2021

15. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
16. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
17. CoStar; Through Q4 2021. Note: Measured across the top-100 markets

18. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
19. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
20. CoStar; Through Q4 2021. Note: Measured across the top-100 markets
21. CoStar; Through Q4 2021. Note: Measured across the top-100 markets

MACRO ECONOMY SECTION SOURCES

1. NAIOP
2. US Census Bureau
3. US Census Bureau
4. US Census Bureau

6. Real Capital Analytics; Through 2021
7. Real Capital Analytics; Through 2021
8. Real Capital Analytics; Through 2021
9. Real Capital Analytics; Through 2021
10. Real Capital Analytics; Through Q4 2021
11. Real Capital Analytics; Through Q4 2021

1. THE FED RAISES INTEREST RATES

• For the first time since 2018, The Federal Reserve’s policy-setting committee raised interest rates as they pivot away from recovery-focused accommodations towards a more aggressive fight against persistent domestic inflation.
• The Federal Funds rate was raised by 25 basis points, moving from the 0-0.25% range that it has been at since March 2020 to a target range of 0.25%-0.50%. Leveraging results tabulated from the recent Summary of Economic Projections released on March 16th, FOMC members, on average, project six more rate hikes in 2022 in an effort to curb inflationary pressures not seen in more than 40 years.
• Throughout the pandemic-recovery, The Fed consistently signaled its commitment to an accommodative policy regime as the US economy dealt with the macroeconomic scars of COVID-19 case surges and related restrictions on activity. As GDP recovered and labor market distress continued to subside in 2021, policymakers began pivoting their focus to tempering high inflation as stronger consumer demand bucked up against supply constraints.
• The challenge for the Fed now will be to moderately slow the economy enough to relieve inflationary pressures without kicking the US economy into recession. The FOMC’s decision to raise rates despite increased economic and geopolitical uncertainty stemming from the War in Ukraine may be a signal that they are willing to accept a degree of economic pain in order to reduce inflation.

2. POTENTIAL SANCTIONS’ IMPACT ON CRE

• Where there are few direct links between the economic sanctions recently levied against Russian companies and the success of US Commercial Real Estate, there are a few noteworthy changes that may make it more crucial for companies and managers to increase their due diligence.
• As part of the recent sanctions package, the US Treasury added additional names of people and companies to add to their Office of Foreign Asset Control (OFAC) list. It is already commonplace in commercial real estate transactions for contracts to include language that ensures that an investor is not part of the OFAC list, but as usage and enforcement of the sanctions tools push through the economy, individuals and companies involved in real estate transactions will need to be as careful as ever to avoid potential fines and administrative penalties.
• Large brokerages who conduct business in Russia have already started to suspend operations in leasing, investment, and property management services, with some extending their suspensions to Belarus. For brokerages with less international exposure, the impact will be slim to none. However, some risk has arisen domestically. Anecdotal references to wealthy Russian real estate clients canceling upcoming deals or altering plans out of fear of asset seizure have popped up in recent weeks, but there is scant data available on where or how much this exposure has materialized.

3. SHORT TERM ENERGY OUTLOOK

• Forecasts for the short-term energy outlook compiled by the US Energy Information Administration (EIA) highlight increased uncertainty in global energy markets stemming from Russia’s invasion of Ukraine, among other factors.
• According to the EIA, Brent crude oil spot prices averaged $97 per barrel in February, an $11 per barrel increase from January. During the first week of March, as tensions in Ukraine increased and western sanctions began to take hold, daily spot prices for Brent crude closed close at $124 per barrel.
• Adding to price pressures is the cyclical low that oil production has experienced over the past several quarters. According to the EIA, global oil inventories have fallen steadily since Q3 2021 and are estimated to have fallen further during the first two months of 2022. Production decisions by OPEC+ and US natural gas producers in the coming weeks will provide a more accurate short-term outlook for oil prices. Initial signals by OPEC+ members have suggested an unwillingness to increase production in order to alleviate prices, though one member nation, The United Arab Emirates (UAE), has been more ambiguous on their commitments.

4. CONSUMER PRICE INDEX

• Consumer prices rose 7.9% year-over-year through February, according to the Bureau of Labor Statistics’ Consumer Price Index (CPI). Year-over-year price increases have now accelerated for six consecutive
  months and have remained elevated above the Federal Reserve’s 2% inflation rate target since March 2021. (Note: the Fed explicitly uses the PCE Deflator as its preferred gauge of inflation but still considers CPI a key indicator of macroeconomic inflation).
• Prices climbed by 0.8% month-over-month on a seasonally adjusted basis, rising above January’s increase of 0.6%. Gasoline, food, and shelter were the largest contributors to February’s uptick, rising respectively by 6.6%, 1.0%, and 0.5% on a month-over-month basis.
• After weighting for relative importance, Gasoline prices accounted for roughly one-third of all inflation in February. Overall gasoline prices have climbed by 38.0% in the past 12-months, while fuel oil prices specifically have risen further, climbing by 43.6% in the past 12-months.
• Core-CPI, which removes food and energy prices that tend to be more volatile and less responsive to monetary policy decisions, increased by 0.5% month-over-month and 6.4% year-over-year. The increase in shelter costs accounted for just over 40% of all inflation in non-food or energy goods and services.

5. JOB OPENINGS AND LABOR TURNOVER SURVEY

• The number of job openings in the US was little changed in January from the previous month, standing at 11.3 million on the last business day of January, according to the Bureau of Labor Statistics.
• Hires and separations were also little changed at 6.5 million and 6.1 million, respectively. The quits rate fell to 2.8%, while layoffs and discharges were little changed at 0.9%.
• The fall in quits was most apparent in retail trade jobs, which saw 69k fewer people quit in January than in December. Finance and Insurance related roles saw the highest number of quits in January, reaching 30k.
• In the past 12-months, 76.4 million people in the US have started new jobs, while 70.0 million have separated from their previous job, charting a net employment gain of 6.4 million since January 2021.

6. NEW BUSINESS APPLICATIONS

• New business applications fell by 2.1% in February from January, according to the latest release of the Census Bureau’s experimental Business Formation Statistics.
• Roughly 420k new businesses were created last month, derived from applications for new Employer Identification Numbers (EIN) filed with the IRS. 135k of these businesses are considered “high propensity,” a drop of 3.0% from January. Newly formed businesses with planned wages dropped by 1.6% to 48k while new corporations dropped by 4.9% to 49k.
• Agriculture led all industries in newly formed business in February, adding 3,473 businesses, while Utilities had the highest percent increase at 14.6%. Retail trade slowed the most, producing 6.6% fewer new businesses in February than January.

7. RETURN TO OFFICE IN GATEWAY MARKETS

• Data produced by keycard operator Kastle systems shows that in March, office occupancy returned to pre-Omicron levels.
• Since March 2020, activity at office buildings has sat in a pandemic-era lull. However, activity had started to improve as the Delta subsided in the Fall of 2021. Pandemic-era office occupancy peaked on December 1st, 2021, with a 40.6% physical occupancy rate before plummeting again as Omicron cases began to surge across the US. In Kastle’s most recent weekly survey on March 9th, office occupancy climbed back to 40.5%
• The Kastle survey relies on data from office access systems in place across 10 US Cities. As of March 9th, Austin led all cities with a 58.3% occupancy rate, followed by Houston at 52.4% and Dallas at 50.7%. San Francisco remained the lowest in the US, with an office occupancy rate of just 29.4%.

8. ENVIRONMENTAL, SOCIAL, AND GOVERNANCE (ESG)

• A survey by Deloitte of 300 senior finance, legal, and sustainability leaders found an increase in the preparation and adoption of reliable data by companies for ESG reporting. This comes amid growing ambitions by the business landscape to address environmental and social concerns while attempting to accurately account for the risks and potential value creation opportunities presented by ESG.
• 57% of survey respondents say that data availability and quality are the biggest challenges to ESG, which may explain the disconnect between firms and managers with ESG ambitions those with the structures in place to work towards them. 57% of respondents indicate that they are working to implement ESG working groups within their firms, but just 21% of respondents say that they currently have an ESG working group dedicated to implementing ESG strategies.
• Roughly 8-in-10 respondents believe that they will need additional resources to generate ESG disclosures, while 9-in-10 respondents specifically listed technology as the primary need to help enable complete and accurate ESG disclosures.

9. THE GREAT RESIGNATION

• A new Pew Research poll on March 9th shows that a majority of workers who quit their job in 2021 cited low pay, no opportunities for advancement, or a lack of feeling respected as the reasons for departing.
• A net 63% indicated both low pay and lack of advancement opportunities as one of the main reasons for leaving, while 57% indicated feeling disrespected at work. Despite the attention that relocation efforts have been given in the search for answers to the sky-high quits rates seen in 2021, only 35% of respondents indicated that wanting to relocate accounted to a different area was a reason for leaving.
• Roughly half of the respondents cited child care burdens as a reason for quitting, with a similar share pointing to a lack of flexibility in their work hours.
• In a separate question that asked specifically whether the COVID-19 outbreak contributed to their decision to quit, 31% indicated that they were.

10. LEADING INDICATOR OF REMODELING ACTIVITY (LIRA)

• The Leading Indicator of Remodeling Activity Index (LIRA) is a quarterly measure of short-term national home improvement spending on owner-occupied homes produced by the Joint Center for Housing Studies at Harvard University (JCHS). The index projects out four-quarters of remodeling activity and, in its most recent update, signaled that activity could reach a new peak in 2022.
• Historical estimates show that activity has steadily increased over the past several quarters. Utilizing a four-quarter moving percent change, after falling from a Q1 2020 peak of 3.2% to a pandemic-low of 1.5% in Q3 2020, the activity has accelerated in each successive quarter, reaching a four-quarter moving average of 9.4% in Q4 2021.
• JCHS projects that the moving average will rise to 11.3% in Q1 2022 before accelerating faster into Q2, with a forecast of 15.2%. The acceleration in activity is expected to peak in Q3 2022 at 19.7% before receding modestly to 17.3% in Q4.

 

SUMMARY OF SOURCES

• (1) https://www.federalreserve.gov/monetarypolicy/files/fomcprojtabl20220316.pdf
• https://www.cnbc.com/2022/03/16/federal-reserve-meeting.html
• (2) https://www.jdsupra.com/legalnews/the-effect-of-us-sanctions-against-7609385/
• https://www.gravel2gavel.com/commercial-real-estate-brokerages-in-an-uncertain-russian-market/
• (3) https://www.eia.gov/outlooks/steo/
• (4) https://www.bls.gov/news.release/cpi.nr0.htm
• (5) https://www.bls.gov/news.release/jolts.nr0.htm
• (6) https://www.census.gov/econ/bfs/data.html
• (7) https://www.kastle.com/safety-wellness/getting-america-back-to-work/
• (8) https://www.environmentalleader.com/2022/03/deloitte-survey-finds-companies-are-working-toward-more-transparent-esg-plans/
• (9) https://www.pewresearch.org/fact-tank/2022/03/09/majority-of-workers-who-quit-a-job-in-2021-cite-low-pay-no-opportunities-for-advancement-feeling-disrespected/
• (10) https://www.jchs.harvard.edu/press-releases/boom-home-remodeling-may-peak-2022

1. COMMERCIAL REAL ESTATE DEAL VOLUME

• After a large swath of investors sat on the sidelines in 2020, last year proved to be the most active year for commercial real estate sales on record. According to Real Capital Analytics, $808.7 billion of U.S. CRE assets changed hands in 2021— an 87.8% increase over 2020’s pandemic impacted total and an equally impressive 34.8% above 2019’s previously held peak.
• Of the core-four commercial property types (Apartment, Office, Retail, and Industrial), the Office sector was the only one to not see 2021 transaction volumes eclipse their 2019 peak. While transaction volumes did rise by a reassuring 56.5% year-over-year, they remained down from 2019’s levels by 3.5%.
• Apartment transaction volumes surged to new heights in 2021, totaling $335.3 billion last year— just shy of the total set in 2019 and 2020 combined. Measured 2021’s deal volume total grew by 128.2% year-over-year. Moreover, last year’s final tally stands 73.6% higher than the total set in 2019.
• Industrial deal volume grew by 56.2% in 2021, the lowest growth rate of the core-four property types. However, the primary reason why the Industrial sector’s relative growth rate is lower than its marketpeers is that it maintained strong transaction volumes in 2020. Compared to the previously held 2019 peak, 2021’s Industrial deal volumes totals finished up by a robust 41.6%
• Retail sector deal volume recovered admirably in 2021, reaching $76.9 billion in asset sales. For the year, transaction volumes grew 87.9% compared to 2020 levels and 16.4% over its 2019 benchmark.

2. JANUARY JOBS REPORT

• According to the Bureau of Labor Statistics, the U.S. economy added 467k jobs in January, according to the latest release.
• While January’s jobs-add was slightly below December’s addition of 510k jobs, it comes amid a typical seasonal slowdown for hiring alongside new records for U.S. COVID-19 cases.
• Wages rose by 0.7% in January month-over-month, and they are up 5.7% since January 2021. The continuing climb in wages is indicative of the market competition for labor, as higher demand during the pandemic recovery alongside tight labor supply has strengthened worker-bargaining power in ways not seen in decades.
• November and December estimates were revised up, adding a cumulative 709k jobs to their initial estimates. In the latter months of 2021, job growth consistently undershot economists’ forecasts. However, in January, the economy outperformed the Dow Jones estimate by more than 300k jobs. This may be evidence of a lag in economists factoring in COVID effects. In November and December, the rapid emergence of Omicron caught many by surprise, dampening employment results compared to most market expectations. In January, the opposite likely occurred as experts priced in high U.S. case counts, but the variant’s impact on the economy proved to be modest

3. UNEMPLOYMENT RATE

• The unemployment rate and the number of unemployed persons was little changed at 4.0% and 6.5 million, respectively, while the labor force participation rate held steady at 62.2%, according to the the latest report by the Bureau of Labor Statistics.
• Since January 2021, the unemployment rate has fallen 2.4 percentage points and the number of unemployed persons is down by 3.7 million.
• The number of workers on temporary layoff increased in January to 959k but remained down by 1.8 million since January 2021. Permanent layoffs changed little in January but remain 1.9 million below January 2021’s estimate. There are currently 1.8 million permanent job losers in the economy.
• Marginally attached workers— meaning they are not actively searching for employment, but who still would like a job, was little changed at 5.7 million while the number of persons employed part-time for economic reasons continued to trend down, standing at 3.7 million in January. Part-timers for economic reasons have declined by 2.2 million in the past year.

4. JOB OPENINGS AND LABOR TURNOVER SURVEY (JOLTS)

• According to the Bureau of Labor Statistics, there were 10.9 million openings in the U.S. as of December 31st, the latest date of availability, little changed from the month prior.
• Hires decreased by -330k to 6.3 million, a rate of 4.2%. Meanwhile, separations, which include quits, layoffs, and discharges, declined by -305k to 5.9 million. The quits rate was little changed at 2.9% but had notable decreases in sectors that had been seeing increasing turnover in the past several months, including healthcare, food services, and construction services.
• In the 12 months ending in December 2021, there were 75.3 million hires and 68.9 million separations, a net gain of 6.4 million.

5. CONSUMER SENTIMENT

• Consumer sentiment fell in January, with the index falling 4.8% from December to a reading of 67.2, its lowest level since November 2011, according to preliminary results from the University of Michigan.
• From February 2020 to April 2020, consumer sentiment experienced a sharp decrease of 28.9% before recovering in the second half of the year. As the pandemic-era-economy rebounded into 2021, so did sentiment. However, over the past nine months, as the Delta and Omicron variants took hold and inflation crept into most sectors, the sentiment index has declined sharply.
• According to the analysis by the report’s chief economist, Richard Curtin, supply chain issues and their glaring effect on purchasing prices largely contributed to both the inflation uptick and subsequent decline in consumer confidence. However, a wage-price spiral has begun to develop over the past few months, while household spending has been elevated by rapidly rising home and stock prices.
• According to the report, overall confidence in government economic policies is at its lowest level since 2014., with geopolitical risk and upcoming interest rate hikes likely contributing to jitters.

6. CMBS DELINQUENCIES

• According to Trepp, CMBS delinquencies reassumed their pattern of declines in January following an increase in December, where the delinquency rate increased for the first time since June 2020. CMBS delinquencies have now fallen in 18 of the previous 19 months.
• The January CMBS delinquency rate was 4.18%, a 39 basis point decline from December. The share of loans that were 30 days delinquent stands at 0.16%, down 33 basis points from December.
• 2.17% of loans by balance missed their January payment but were within the “grace period” of under 30 days delinquent. Loans in the grace period are up by four basis points from December.
• The percentage of loans with a special servicer fell by 42 basis points to 6.33% in January.

7. CASH PURCHASES ON THE RISE

• An analysis by RealtyTrac shows that real estate investor purchases rose from 11.7% of all transactions in Q3 2020 to 16.4% in Q3 2021. Additionally, a majority of investors continue to pay in cash— the share of all-cash purchases rose from 69.5% to 97.0% across the same period.
• The uptick in all-cash purchases is indicative of the competition for home buying as the housing market continues its hot streak amid record-low inventory. Investors who can offer cash upfront without the need for additional financing can often speed up the transaction process, in some cases limiting the need for appraisals.
• Cash purchases have also helped investors rake in significant discounts. According to the report, citing data from ATTOM, investors paid an average of 18.9% less than the median sale price of a home in Q3 2021. However, this effect is waning from earlier in the year— in Q2 2021, discounts to cash-purchasers averaged 29.4% below the median sales price.

8. HOUSEHOLD DEBT

• Household debt levels rose by 7.0% in 2021— the biggest jump since just before the Great Financial Crisis. In total, there is nearly $15.6 trillion of debt on domestic household balance sheets, 70% of which is in the form of mortgage debt.
• Rising mortgage debt was the overwhelming biggest contributor to rising household debt levels in 2021. Through Q4 2021, outstanding mortgage debt held by households is up by 8.8% year-over-year. Moreover, mortgage debt is responsible for 87% of the $1.0 trillion increase in total household debt incurred in 2021.
• Student loans, which account for the second-largest source of household indebtedness, reached $1.6 trillion through the end of 2021— a new all-time high even as interest accrual on Federally guaranteed student loans remain frozen through May 1st, 2022. Still, the 1.4% student loan debt increase marks the smallest change for the category in the lifetime of the New York Federal Reserve’s tracking, dating back to 2003.

9. FANNIE MAE HOUSING SURVEY

• Fannie Mae’s January National Housing Survey indicated broad pessimism in the housing market. The survey also showed consumers becoming more pessimistic about home purchasing as only 25% of respondents felt it was a good time to buy, down from 52% just a year before. Only 15% of respondents aged 18-34 thought January 2022 thought it was a good time to buy.
• Almost 91% of respondents expect that home rental costs will stay the same or go up with the average expected price change of around 7.4%.
• Average expectations for home increases were half of that, but a majority expected to pay higher interest rates for home purchases. Despite expectations for increased costs, two-thirds of respondents noted that they would buy a home if they were going to move.

10. GATEWAY MARKETS VS. SMALLER CITIES

• An analysis by the New York Fed suggests that real estate investments in big U.S. cities tend to yield lower returns compared to their smaller counterparts.
• The difference can be somewhat sizable, with small cities offering an annual return premium of approximately 80 basis points. The author points to risk assessments as the primary driver of the return spread.
• According to the report, smaller markets offer a return premium relative to larger markets because they are seen as riskier given that their market tends to be less liquid and less correlated with underlying factors like income growth

SUMMARY OF SOURCES
• (1) https://app.rcanalytics.com/#/trends/downloads
• (2) https://www.bls.gov/news.release/empsit.nr0.htm
• (3) https://www.bls.gov/news.release/empsit.nr0.htm
• (4) https://www.bls.gov/jlt/
• (5) http://www.sca.isr.umich.edu/
• (6) https://www.trepp.com/trepptalk/monthly-snapshot-cmbs-cre-clo-banking-january-2022
• (7) https://www.globest.com/2022/02/09/real-estate-investor-cash-home-purchases-on-the-rise/
• (8) https://www.newyorkfed.org/microeconomics/hhdc
• (9) https://www.fanniemae.com/research-and-insights/surveys/national-housing-survey
• (10) https://libertystreeteconomics.newyorkfed.org/2022/02/housing-returns-in-big-and-smallci

 

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By Monsef Rachid | February 4, 2022

According to the Mortgage Bankers Association’s latest CREF Loan Performance Survey, delinquency rates for mortgages backed by commercial and multifamily properties declined during the final three months of 2021.

“The fourth quarter saw continued improvement in the performance of commercial and multifamily mortgages, particularly among property types that were the most impacted by the downturn,” said Jamie Woodwell, MBA’s Vice President of Commercial Real Estate Research. “The share of outstanding balances that are delinquent fell for both lodging and retail properties, as property owners and lenders and servicers continue to work through troubled deals. The share of loan balances becoming newly delinquent was the lowest since the onset of the pandemic.”

Key Market Findings for December 2021:

The balance of commercial and multifamily mortgages that are not current decreased slightly in December 2021.

• 97.0% of outstanding loan balances were current, up from 96.7% at the end of the third quarter of 2021.
• 1.9% were 90+ days delinquent or in REO, down from 2.2% three months earlier.
• 0.2% were 60-90 days delinquent, unchanged from three months earlier.
• 0.3% were 30-60 days delinquent, unchanged from three months earlier.
• 0.7% were less than 30 days delinquent, down from 0.8% from three months earlier.

Loans backed by lodging and retail properties continue to see the greatest stress, but also saw improvement during the fourth quarter of 2021.

• 10.5% of the balance of lodging loans were delinquent, down from 14.0% at the end of the third quarter of 2021.
• 7.6% of the balance of retail loan balances were delinquent, down from 8.2% three months earlier.
• 2.1% of the balances of industrial property loans were non-current, up from 1.8% three months earlier.
• 1.8% of the balances of office property loans were non-current, unchanged from three months earlier.
• 1.4% of multifamily balances were non-current, up from 1.3% three months earlier.

Because of the concentration of hotel and retail loans, CMBS loan delinquency rates are higher than other capital sources, but also saw improvement during the final three months of 2021.

• 5.7% of CMBS loan balances were non-current, down from 7.2% in last year’s third quarter.
• Non-current rates for other capital sources were more moderate.
• 2.2% of FHA multifamily and health care loan balances were non-current, up from 2.0% three months earlier.
• 1.6% of life company loan balances were non-current, up from 1.2% three months earlier.
• 0.6% of GSE loan balances were non-current, unchanged from three months earlier.

 

By Lynn Pollack | February 01, 2022

Inflation is as high as it’s been in years, but that’s with respect to goods and labor.

Developers should break ground on new projects now, while the cost of capital remains low—despite rising inflation, according to one industry expert.

“The question my clients ask me almost every single day is, do I put the shovel in the ground today or do I wait a year from now when we might see lower inflation. The bottom line is it’s better to put the shovel in the ground today,” CBRE’s Spencer Levy told CNBC last week. “Yes, inflation is as high as it’s been in years, but that’s with respect to goods and labor. But the cost of capital is still relatively low.”

Levy predicts that demand will keep pace and shortages in housing and industrial will persist into the next year, and says “the cost of capital is lower today than it will be a year from now.”

When asked if we’re approaching bubble territory, Levy said he isn’t worried.

“One of the great things about the commercial real estate industry is that it’s somewhat self-regulating with the respect to the type of construction you’re seeing, he told CNBC most construction is in high-demand, low-supply property types like industrial and multifamily, not in sectors like office or retail.

“As a matter of fact, if you take a look at last year, we saw unbelievable rent growth in multifamily and industrial, the areas where we’re seeing the most construction,” he pointed out. And while that rent growth won’t continue at the same eye-popping levels we’ve seen as of late, Levy told CNBC he expects advanced growth in 2022 and beyond as long as rate hikes stay within the three- to five-hike band most experts are predicting.

“Long term, modestly rising interest rates and inflation has actually been good for commercial real estate, both for rents and for property values,” he said. But “if we’re wrong on these three, four, five rate hikes, and it’s much worse than that, then you should be concerned. But if it stays in that band it’s a very favorable environment for commercial real estate.”

In fact, Levy says that even if the 10-year Treasury goes up by 100 basis points, “that’s still an incredibly low cost of capital by any measure.”

Still, it is hard to ignore that headline inflation is up 7.1% from last year, the biggest uptick since 1982.

“The Fed looks a bit panicked,” CBRE’s Richard Barkham, Global Chief Economist and Global Head of Research, said last month. “At the moment, we’re at peak inflation and I suspect it will stay there for the first half of the year and then begin to ease. It should settle back in the 2 to 3 percent range by year’s end, which is still higher than the pre-pandemic norm of about 1 to 2 percent.”

Barkham says “three rate hikes this year should be enough,” noting that while the hikes will “unnerve” the stock market, strong corporate earnings will support them.

 

By Jeffrey J. Smith | November 17, 2021

Economic, social, and digital disruptions combine to force a change in how CRE is developed, financed, and used

As we turn the corner on 2021, hopes that we would be doing the same on COVID-19 have stalled. The Delta variant has clouded the near-term outlook as vaccination, masking, and social distancing requirements have impacted commercial work and gathering facilities. The commercial real estate (CRE) industry is positioned at the forefront of the recovery: Office employers are balancing productivity and safety; retailers face critical turning points in an evolving industry; residences are competing for tenancy amid shifting migration patterns and heightened affordability concerns. Meanwhile, companies face increasing demands to prioritize environmental, social, and governance (ESG) issues, aging technology infrastructures, a tightening labor market, and increasingly differentiated competition. How the CRE industry proceeds into early 2022 could set the foundation for its success over the next several years.

Here are the key findings from Deloitte’s 2022 commercial real estate outlook:

Despite some financial concerns and an evolving regulatory environment, optimism around fundamentals prevails. Eighty percent of respondents expect their institution’s revenues in 2022 to be slightly or significantly better than 2021 levels.

Most firms continue to depend on legacy technology systems, which could hamper progress and their ability to innovate. Eight in 10 respondents do not have a fully modernized core system that could easily incorporate emerging technologies.

Many CRE firms are focusing on retrofitting properties and repurposing spaces for alternate uses to maximize value. However, only one-quarter of respondents say their companies are substantially increasing technology investments to bolster portfolio and asset management capabilities.

Sustainable properties are often key to a better tenant experience; building partnerships to provide new offerings to tenants can also enable real-estate-as-a-service (REaaS). Over three-fourths of respondents say their companies will likely expand partnerships with or invest in proptechs, which could help firms deploy the REaaS delivery model.

As the CRE industry develops long-term, return-to-work strategies, flexible working arrangements, organizational purpose, and demand for technology skills will shape the talent landscape. The tight labor market is bringing workforce issues to the forefront, such as well-being, ESG, and adopting a more individualized approach to where work gets done (remote/office/hybrid). Our survey indicates CRE employees want their firms to be more purpose-driven.

Most CRE companies are in the early stages of addressing climate risk; respondents indicated sustainability concerns, and the need to address them were priorities in this year’s survey. But in the wake of the pandemic and community demands for more equitable playing fields, CRE leaders should also prioritize social issues and diversity, equity, and inclusion (DE&I) initiatives. The CRE industry has a long way to go to achieve equitable representation.

As the CRE industry develops long-term, return-to-work strategies, flexible working arrangements, organizational purpose, and demand for technology skills will shape the talent landscape.

The tight labor market is bringing workforce issues to the forefront, such as well-being, ESG, and adopting a more individualized approach to where work gets done (remote/office/hybrid). Our survey indicates CRE employees want their firms to be more purpose-driven.

Most firms continue to depend on legacy technology systems, which could hamper progress and their ability to innovate.

Eight in 10 respondents do not have a fully modernized core system that could easily incorporate emerging technologies.

Real Estate Industry Services