Commercial Real Estate: Industrial property still reigns supreme for investors

As e-commerce eats up an increasingly large share of retail sales, warehouses remain in high demand.

This was the assessment of experts at RERC, a SitusAMC company, who recently discussed some property type valuation trends in the commercial real estate (CRE) market. Their conclusions were included in the November 2019 RERC Real Estate Report, “Global Realities.”

OFFICE

  • Unemployment is hovering around 50-year lows, supporting the office sector; however, leading indicators of business and CEO confidence have declined in 2019, indicating pessimism about future office performance.
  • Changes in the office sector are contributing to a wider spread between haves and have-nots. Bifurcation typically increases before, and especially dur­ing, a downturn. With tenant improvements (Tis) and concessions on the rise, buildings that can be easily adapted are in high demand.
  • Demographic and employment trends are presenting secular headwinds for the sector; the baby boomers are getting ready to retire in droves and tenants continue to reduce their footprints as communal spaces become more popular and technology impacts the way people work and use spaces.
  • Slowing employ­ment growth will decrease demand for office space and put pressure on rent growth. We anticipate limited growth in the sector, but not a major correction.
  • The demise of WeWork could result in a flood of excess space in the market. NYC, San Francisco and Seattle have the greatest WeWork exposure, but the effect on the value of office space isn’t clear yet.

INDUSTRIAL

  • Record low unemployment and continued wage growth is supporting consumer spending and growth in online sales, boosting demand for warehouses.
  • However, U.S. manufacturing activity slowed to a 10-year low in September 2019 and is contracting due to trade war fears. U.S. indus­trial production has generally declined since December 2018, with large declines between August and October 2019 and decreases across all major market and industry groups.
  • Industrial markets that rely on international trade will be the most hurt by the trade wars, while industrial centers along major arterial highways and those that can pro­vide last-mile logistics are trading at a premium.
  • The industrial sector remains the highest performing property type, with strong fundamentals and investor demand, as the online shopping trend continues to be a big disruptor in retail sales. This is boosting demand for industrial warehouses, especially those that can provide last-mile logistics.
  • The face of the industrial sector is changing as technological trends take hold in the supply chain. Space efficiency is key with properties needing to accommodate thin­ner forklifts, increased minimum heights that allow for high stacking and little to no space between aisles. Multistory warehouses may be a solution to a lack of available land for industrial spaces. Cold storage is another popular trend in the industry, especially as grocery delivery (e.g., AmazonFresh) gains in popularity.

RETAIL

  • Steady employment and wage growth com­bined with low inflation have lifted consumer confidence and supported consumer spend­ing, but recently momentum has been slowing across these indicators. The retail industry is also benefiting from a quarter over quarter (QoQ) and year over year (YoY) increase in disposable personal income and personal consumption expenditures in 3Q 2019; the Consumer Confidence Index has been down throughout 3Q compared to the earlier part of the year, but remains near pre-recession highs.
  • The trend continues to be transforming abandoned big box or anchor tenant space into entertainment-use space. Develop­ers are doing anything to contribute to the live-work-play focus of many of these new mixed-use retail redevelopments.
  • Experiential retail, retail concepts that include a restaurant, full bar, event space and activity space (bowling lanes, arcade games, music stage, etc.), have been coming in to mall anchor stores or outdoor shop­ping centers. These tenants help retail properties by occupying once-vacant space and contribute to the success of the center as they draw large crowds for various events.
  • The e-commerce revolution has led, in large part, to the decline of traditional large brick-and-mortar stores. E-commerce increased nearly 17% YoY in 3Q 2019. Over 9,000 physical stores are expected to close by the end of 2019, most coming from large format stores like Kmart and Sears or traditional mall occupants like Victo­ria’s Secret, Forever 21, Gap and Charlotte Russe.
  • Bifurcation in the retail market is due to chang­ing consumer preferences, underlying consumer demand and the prevalence of online shopping. It is a tale of the haves and have-nots. There are thriving, high-quality properties in desirable locations, but these spaces are hard to find. Lower-quality properties are becoming obsolete. At this stage in the cycle, determining which tenants will survive the so-called retail apocalypse is critical.

APARTMENT

  • Lack of affordable housing is a national issue keeping more people in apart­ments. Strong demand, coupled with exception­ally low unemployment and a recent increase in wage growth, has led to high rent growth.
  • However, the top of the market has been chal­lenged with concessions continuing for high-end apartments. Investors and landlords are relying on value-add plays and more amenities.
  • Many investors are trying to sell because they don’t see rents growing any further. The value of top-tier apartments has stagnated and many inves­tors are trying to sell them; even some second­ary markets are feeling the pressure.

Visit our website or call 319-352-1500 for more information about RERC’s research.

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