SVN | Research Economic Update 11.10.2023

1. WEWORK BANKRUPTCY, CRE IMPACT

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

2. COMMERCIAL PROPERTY PRICES

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

3. CRE MARKET INSIGHTS, OCTOBER 2023

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

4. INTEREST RATE DECISION

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

5. FINANCIAL STABILITY RISKS

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

6. OCTOBER JOBS REPORT

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

7. DECLINE IN APARTMENT STARTS EXPECTED

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

8. LOGISTICS MANAGERS INDEX

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

9. MANUFACTURING PURCHASING MANAGERS’ INDEX (PMI)

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

10. US PERSONAL SPENDING

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

SUMMARY OF SOURCES

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

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

1. SEPTEMBER JOBS REPORT

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

2. JOB OPENINGS AND LABOR TURNOVER

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

3. FOMC MEETING MINUTES

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

4. THE RISE OF SMALLER FLOORPLATES

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

5. HOME AFFORDABILITY

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

6. CHINA RE TROUBLES: IMPACT ON GLOBAL GROWTH

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

7. CRE & NET ZERO

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

8. TAX INCENTIVES FOR LOAN MODIFICATIONS & DEBT RELIEF

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

9. UBS SIX BURNING QUESTIONS ON REAL ESTATE

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

10. DATA CENTERS AND NUCLEAR POWER

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

SUMMARY OF SOURCES

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

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

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

1. CPI INFLATION

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

2. INTEREST RATE OUTLOOK

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

3. CONSUMER INFLATION EXPECTATIONS

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

4. AUGUST JOBS REPORT

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

5. SMALL BUSINESS OPTIMISM

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

6. LOGISTICS MANAGERS’ INDEX

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

7. WHOLESALE INVENTORIES

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

8. DATA CENTER TRENDS

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

9. REDBOOK RETAIL INDEX

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

10. SPECIAL SERVICING RISES

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

SUMMARY OF SOURCES

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

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

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

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

1. CPI INFLATION

• The Consumer Price Index (CPI) rose 3.2% from one year ago, roughly in line with last month’s increase and climbing just 0.2% month-over-month.
• Core prices, which exclude food and energy rose 4.7% year-over-year, the lowest annual increase since October 2021. Core prices also rose just 0.2% from the month prior — a signal that inflation pressures continue to ease across the US economy gradually.
• Shelter costs continue to be the primary catalyst behind rising price pressures, increasing 0.4% month-over-month and 7.7% over the past 12 months.
• Food prices aligned with headline inflation during July, rising 0.2% from June.
• Despite a spike in crude oil prices in July, energy prices rose just 0.1% month-over-month.
• Real wages, which adjust wage increases for inflation, rose 0.3% in July and are up 1.1% over the past 12 months. The rise in real wages signals that Americans’ incomes are starting to catch up — reversing some of the inflationary erosion in consumer purchasing power.

2. JULY JOBS REPORT

• The US economy added 187k jobs in July, while the unemployment rate remained little changed at 3.5%. July’s level registered below the Dow Jones estimate of 200k job adds.
• July’s job growth was slightly above June’s level of 105k job adds but remained well below its postpandemic trend. The job growth levels in June and July are the lowest monthly increases since December 2020.
• Average hourly earnings rose 0.4% during the month and have climbed by 4.4% over the past year. The monthly and annual wage increases exceeded consensus estimates, while a slowdown in inflation led to a significant monthly increase in real wages.
• Labor force participation had held steady at 62.6% for the past five months.
• Stocks reacted positively to the jobs report since, despite falling job growth, the gradual nature of the labor market’s slowdown alongside steady unemployment and labor force participation levels signal a “soft landing” for the US economy.

3. HOUSEHOLD DEBT

• Consumer debt rose to a record level during the second quarter of 2023, climbing to $17.06 trillion, according to the New York Fed.
• Credit card balances are up 4.6% quarter-over-quarter, rising by $45 billion to $1.03 trillion in the second quarter. Steady consumer spending levels are being amplified by inflation pressures, partially explaining the sharp increases.
• Meanwhile, mortgage debt remained relatively stable compared to the start of the year, coming in at $12.01 trillion at the end of Q2. These data largely reflect a slowdown in new mortgage originations and refinance applications, which have fallen in 2023 due to rising interest rates. Mortgage debt accounts for roughly 70% of America’s total debt load.
• In a worrying sign, the four-quarter average for credit card delinquencies rose to an 11-year high, a potential sign of an upcoming slowdown in consumer spending levels.

4. INTEREST RATE PROJECTIONS

• According to the Chicago Mercantile Exchange’s Fed Watch Tool, Fed Funds futures forecast a 90.5% chance of a pause in rate increases when the FOMC meets at its next meeting in September.
• Forecasts were bolstered in recent days after the July CPI report revealed that US inflation pressures continue to soften monthly and annually. One week prior, futures markets were pricing in a less certain 82.0% chance of a pause, which itself was bolstered by a positive July jobs report.
• The Federal Reserve initially paused rate increases in June as it looked to glean signals about the health of the US economy from upcoming data, then enacted a 25 basis points increase in July to help reaffirm inflation expectations. The most recent projections from futures markets reflect a belief that the Fed’s
  data-dependent approach could incentivize a pause as macroeconomic measures point to a softer landing than many had expected.

5. MORTGAGE RATES

• According to Freddie Mac, the average rate on a 30-year fixed-rate mortgage rose to 6.96%, the highest rate since November 2022.
• The rise in mortgage rates follows the recent downgrade of the US credit rating alongside a 25 basis points increase in the benchmark federal funds rate by the FOMC in July.
• Housing demand remains relatively strong in the face of higher mortgage rates, with supply remaining tight due to the tepid seller’s market, incentivizing many would-be sellers to hold onto their assets until the market environment is more favorable.
• Notably, as mortgage rates reached 7.0% in late 2022, housing market activity slowed, a potential signal for what may be ahead in the coming weeks.

6. CREDIT RATING DOWNGRADE

• On August 1st, rating agency Fitch downgraded the US long-term credit rating to AA+ from AAA, reflecting growing government debt, a perceived fiscal deterioration over the next three years, and the “erosion” of governance stemming from the latest debt ceiling standoff.
• On erosion of governance, Fitch notes a “steady deterioration” of fiscal responsibility over the last 20 years, citing repeated political standoffs and last-minute resolutions. Further, it critiques the US’ lack of a medium-term fiscal framework, citing the complexity of the congressional budget process. The agency
  also notes the impact of debt increases and a failure to address medium-term challenges to entitlement programs.
• More specifically on debt, Fitch notes that while the debt-to-GDP ratio has fallen from a 2020 high of 122.3%, it remained uncomfortably above pre-pandemic levels, which sat at 100.1% in 2019. The agency projects that the US debt-to-GDP ratio will continue to rise in the coming years and may make the US vulnerable to future economic shocks.

7. THE FUTURE OF CITIES

• The debate around the future of cities gained substantial intrigue during the COVID-19 pandemic. Still, experts from universities across the country have recently opined that amenities and “unique attractions” are likely to keep demand for urban living high in the long term.
• According to Nicholas Bloom of Stanford, who conducts remote work research, the 12 biggest cities collectively lost about two-thirds of a million residents from city centers during the pandemic. About 60% of those who left moved to nearby suburbs, relatively in line with historical trends. However, relatively few people abandoned urban life altogether, according to Bloom, while urban densification returned to similar levels as in 2010.
• Since 2021, population losses in the 12 largest cities have slowed, with many showing signs of gains. While remote work remains prevalent, fewer residents are using it as an opportunity to move to the suburbs than during the early years of the pandemic.
• Other experts expressed their view that downtowns and central business districts must evolve beyond office spaces to survive. Many expect city centers to become more amenity-focused with diverse revenue streams. In contrast, smaller cities could benefit from remote work as people seek more affordable options with good quality of life.

8. INDUSTRIAL SECTOR FUNDAMENTALS

• A new analysis by Colliers suggests that while fundamentals have softened in the Industrial sector, the fall in demand will likely not be enough to reasonably shift the landlord-favorable environment that exists in the space today.\
• According to the analysis, with a vacancy rate hovering close to 5%, lease rates should continue to climb at a slower but positive pace, remaining favorable to those holding the asset.
• Further, the revival of US manufacturing is expected to produce logistical advantages for businesses and investors, boosting the Industrial sector’s longer-run fundamentals.
• During the second quarter of 2023, the supply of projects under construction fell by 3.4% as interest-rate increases temporarily halted some projects. The construction slowdown will also help operating incomes on existing properties in the short term.

9. HOTEL TO MULTIFAMILY CONVERSIONS

• As Lodging delinquencies rise in some metros, some areas have considered hotel-to-multifamily conversions to reduce property vacancies and prevent a significant decline in values.
• In New York City, where the industry has seen some success with such conversions, the Lodging delinquency rate stands at 15.3%, according to Trepp. Further, New York’s insufficient supply of affordable housing units has made the potential for such conversions more favorable compared to less housing constrained metros.
• Larger metros also continue to experience higher Lodging delinquencies, making them riper for such conversions compared to smaller cities. Houston and Chicago have contributed the most to Lodging delinquencies, with rates of 43.8% and 38.6%, respectively.

10. FORECLOSURES FALL

• According to ATTOM’s monthly Foreclosure Activity Report, foreclosure filings are down 9% from June, with a total of 31,877 properties entering foreclosure in July.
• According to the report, the decline in filings reflects a rebounding housing market, with home prices experiencing a similar turnaround during July. Still, with various factors at play, including an uncertain interest rate outlook, the foreclosure activity may continue to be volatile over the next several months.
• The states with the highest monthly increases in foreclosure rates were Maryland, New Jersey, Delaware, Illinois, and South Carolina. Hawaii, New Hampshire, Idaho, Arkansas, and Alabama saw the most significant monthly declines in July.

SUMMARY OF SOURCES

• (1) https://www.bls.gov/cpi/
• (2) https://www.bls.gov/news.release/empsit.nr0.htm
• (3) https://www.newyorkfed.org/newsevents/news/research/2023/20230808
• (4) https://www.cmegroup.com/markets/interest-rates/cme-fedwatch-tool.html
• (5) https://www.freddiemac.com/?gad=1&gclid=Cj0KCQjwldKmBhCCARIsAP-0rfxtsUBsZIG2h19jzblxT014cZHeZchVdUT9jlJyE9lOuSPri60whUaAnPcEALw_wcB
• (6) https://www.fitchratings.com/research/sovereigns/fitch-downgrades-united-states-long-termratings-to-aa-from-aaa-outlook-stable-01-08-2023
• (7) https://www.pewresearch.org/short-reads/2023/08/02/majority-of-americans-prefer-acommunity-with-big-houses-even-if-local-amenities-are-farther-away/sr_2023-08-02_big-houses_2/
• (8) https://www.globest.com/2023/08/10/heres-why-industrial-will-stay-a-landlords-market/
• (9) https://www.trepp.com/trepptalk/revitalizing-real-estate-converting-underperforming-hotels-intomultifamily-units
• (10) https://www.attomdata.com/news/market-trends/foreclosures/attom-july-2023-u-s-foreclosuremarket-report/

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The average annual increase was 13.6%, while certain locations saw higher increases.

1. INFLATION

• The consumer price index (CPI) rose by 0.2% month-over-month and 3.0% year-over-year through June, according to the latest numbers from the Bureau of Labor Statistics. June’s monthly pace was a slightly uptick from May, but inflation continued to trend down on an annual basis.
• Shelter remains the largest contributor to month-over-month price increases, accounting for roughly 70% of the increase. Food prices rose 0.1% in June, 10 basis points below the previous month’s rate—this was mostly driven by the ‘food away from home’ index, which rose 0.4% in June, while food at home saw no change. Energy prices rose 0.6% in June but have fallen -16.7% over the past 12 months.
• Excluding food and energy, core inflation also rose 0.2% in June, but was the smallest 1-month increase in core prices since the summer of 2021. Since core-inflation is more consequential in central bank policymaking, the core-CPI’s two-year low represents a significant milestone.

2. CONSUMER INFLATION EXPECTATIONS

• Inflation expectations by US consumers for the next 12 months fell for the third consecutive month in June to 3.8%, its lowest since April 2021, according to the New York Fed.
• Consumer inflation expectations have gradually fallen from a June 2022 high of 6.8%, and June’s downtick follows a year-ahead expectation of 4.1% in May.
• Expected price changes for gas declined 40 basis points to 4.7%. Expected price changes for food fell 10 basis points to 5.3%.
• Several other sub-components saw a modest rise in year-ahead expected price changes. For college education, inflation expectations rose 1.2 percentage points to 8.3%, expected price changes for medical services rose by 10 basis points to 9.3%, and expected price changes for rent rose 30 basis points to 9.4%. Similarly, home price growth expectations rose for the fifth consecutive month to 2.9%, its highest reading since July of 2022.
• The median three-year-ahead inflation expectation remained unchanged at 3% but rose for the five-year horizon, jumping 30 basis points to 3%, its highest reading since March 2022.

3. FOMC MEETING MINUTES

• According to the most recent meeting minutes from the FOMC’s June meeting, most officials expect further tightening in the future, but anticipate a slower pace of rate increases compared to the past year.
• Last month, concerns by several officials over the outlook for economic growth led to the decision to hold rates steady—its first non-hike decision since February of 2022. While those officials were concerned, many remained committed to future hikes if necessary. In their words, the decision to pause was to allow more time to evaluate progress toward the Fed’s goals of maximum employment and price stability.
• Despite the unanimous decision not to raise rates, the minutes revealed the disagreement among members, with several advocating for higher rates due to elevated inflation, while others emphasized the need to pause and observe the effects of a year-plus of tightening.
• Additionally, while the pause was a unanimous decision, participants on average project at least one additional hike this year, with a majority anticipating two or more.

4. JUNE JOBS REPORT

• The US added 209,000 new jobs in June while the unemployment rate ticked down slightly to 3.7%, according to the Bureau of Labor Statistics.
• Job growth continues to hold firm despite fears about higher interest rates, slowing spending and investment, and layoffs across many industries. Employment continues to trend positively in key sectors, with the largest increases seen in government (+60,000), health care (+41,000), social assistance (+18,000), and construction (+23,000).
• Payroll growth has certainly slowed in 2023, averaging 270,000 new jobs per month over the first half of the year compared to a pace of 399,000 per month in 2022. Still, despite post-COVID era inflation, and an aggressive monetary tightening cycle that has been used to combat it, the unemployment rate sits just 30 basis points above its March 2020 level.

5. JOLTS

• Job openings decreased to 9.8 million on the last business day in May, 496,000 positions below the April rate, according to the latest Job Openings and Labor Turnover Survey (JOLTS) by the Bureau of Labor Statistics. Declines were concentrated in sectors like health care, finance, and other services.
• Hires remained steady at 6.2 million, with notable increases in the durable goods manufacturing sectors.
• Total separations, which includes quits, layoffs, and discharges, were little changed in May at 5.9 million. Meanwhile, quits increased to 4.0 million. Layoffs and discharges remained stable at 1.6 million. There was a notable increase in layoffs and discharges in the retail trade sector, which climbed by +87,000.

6. NFIB BUSINESS OPTIMISM INDEX

• Small business optimism reached a seven-month high of 91 in June according to the latest data from the National Federation of Independent Businesses. The reading beat market expectations of 89.9.
• 24% of owners report that inflation remained their single most important issue in operating their business, down just one point from May. Nonetheless, only a net 29% of business owners reported higher selling prices compared to the previous month, the smallest proportion since March 2021.
• Further, fewer owners are viewing the near future pessimistically. According to the report, the percentage of firms expecting worst business conditions over the next six months, which moved from a net -50 to a net -40. There were also fewer firms reporting difficulty filling job openings.

7. HOUSECANARY MARKET PULSE

• Closed prices continue to climb despite the apparent peak in list prices, according to the latest Market Pulse report from HouseCanary. Price cuts have fallen well below their peak in 2022, and year-over-year growth is positive through June 2023.
• However, net new listings remain significantly down this year. In June, 264,032 net new listings were placed on the market according to HouseCanary’s data, which amounts to a 35.5% decrease compared to June 2022. Over the last 52 weeks, roughly 2.52 million new listings have been placed on market, representing a 26.7% fall compared to the 52 weeks before.
• According to the report’s analysts, market watchers should expect activity to remain at relatively low level through Q3 2023 as the Fed appears poised to continue rate increase through the end of the year.

8. HOME AFFORDABILITY

• The median-priced single-family home/condo became less affordable during the second quarter of 2023 compared to historical averages, according to the latest US Home Affordability Report from ATTOM.
• This continues a pattern dating back to early 2022, with the most recent report showing that affordability has worsened in the face of recent jumps in home prices. According to ATTOM, the common debt-to-income ratio that is considered “affordable” is 28%. The latest reading showed that the average homeowner would need to contribute 33% of their wages to major homeownership expenses.
• The Q2 2023 level is the highest since 2007 and remains significantly above the 25% that was registered just after mortgage rates took off in early 2022.

9. FORECLOSURE ACTIVITY

• Foreclosure filings are up 13% during the first six months of 2023 compared to the same period last year, according to the latest Foreclosure Activity Report from ATTOM.
• There were roughly 186,000 foreclosure filings between January and June, which in addition to the doubledigit uptick over the first half of 2022, is 185% above the same period in 2021, gradually approaching prepandemic levels.
• The greatest increases in foreclosure activity by state, compared to one year ago, were Maryland (+100%), Oregon (+99%), Alaska (+65%), West Virginia (+83%), and Arkansas (+72%). However, the highest total foreclosure rates by state are in Illinois (0.25% of units with a filing), New Jersey (0.24%) and Maryland
  (0.23%).

10. LOGISTICS MANAGERS’ INDEX

• The Logistics Managers’ Index (LMI), a diffusion index where above 50 signals expansion in transportation and warehousing activity and below 50 is a contraction, fell for a fifth consecutive month to a record low of 45.6 in June.
• The fall represents a contraction in the logistics sector, which is primarily driven by falling inventories, according to the report. Inventories fell in June to their second-lowest reading on record, while inventory costs also fell.
• Declining inventories are predicably impacting the supply of warehouse space, with warehouse capacity climbing over the month. However, demand doesn’t appear to be falling, with both warehouse utilization and warehouse prices increasing.
• Transportation utilization also rose slightly in June, while transportation prices fell, but at a slower rate than in recent months.
• Respondents appear optimistic about the chances of a turnaround in the next month, with the average forecast predicting an expansion rate of 55.4% over the next year.

SUMMARY OF SOURCES

•  (1) https://www.bls.gov/news.release/cpi.nr0.htm
• (2) https://www.newyorkfed.org/microeconomics/sce#/
• (3) https://www.federalreserve.gov/monetarypolicy/fomcminutes20230614.htm
• (5) https://bls.gov/news.release/jolts.nr0.htm
• (6) https://www.nfib.com/content/press-release/economy/small-businesses-raising-prices-falls-tolowest-level-since-march-2021/
• (7) https://www.housecanary.com/wp-content/uploads/2023/07/Market-Pulse-Report-57.pdf
• (8) https://www.attomdata.com/news/market-trends/home-sales-prices/attom-q2-2023-u-s-homeaffordability-report/
• (9) https://www.attomdata.com/news/market-trends/foreclosures/attom-mid-year-2023-u-sforeclosure-market-report/
• (10) https://www.the-lmi.com/

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