Risks to Recovery in Commercial Real Estate

CRE Finance World, Summer 2012

Risks to Recovery in Commercial Real Estate What factors might derail or stunt the recovery of Victor Calanog Kyle McLaughlin Brad Doremus Head of Economics Senior Associate for Senior Analyst for various property types? Reis, Inc. Reis, Inc. Reis, Inc.Economics & ResearchEconomics & Research& Research T that suggested a recovery that was gaining traction. With thousands of new units to market over the next few years. FiguresHowever, the predictable supply response following the last twoyears of strong recovery threatens to stunt the prospects of aboveaverage rent growth. With few other sectors in real estate performingas well as multifamily, developers are rushing to bring hundreds ofhe first three months of 2012 generated a swath of goodnews for commercial real estate. Occupancies improvedacross all property types, rents followed a modest upwardtrajectory, and investors cheered job creation patterns economic growth expected to rise from 1.7% in 2011 to around from the 2010 U.S. Census suggest that any increase in housing 2.5% in 2012, recovery in commercial real estate fundamentals starts is primarily driven by multifamily construction, which grew ought to follow apace. by an annual rate of 21% last February, even as construction of single-family homes fell by 9.9%. However, there are risks inherent to specific property types that may either derail or severely stunt the prospects of a swift recovery. There are indications that anywhere from 150,000 to 200,000 Even the robust multifamily sector may have only twelve to 18 units under construction in the top 79 markets that Reis tracks, months to enjoy above average rent growth. with approximate completion dates from late 2012 to 2013. That is more than triple the rate of inventory growth in 2011. The Limited Window for Multifamily Properties After hitting a high of 8% in late 2009, apartment vacancies have There is much uncertainty, however, as to whether construction been plunging rapidly, falling by 140 basis points every year in delays or relatively tight financing will imply slower inventory 2010 and 2011. Vacancies fell by an additional 30 basis points to growth. Developers tend to be optimistic about completion dates, end at 4.9% by the first quarter of 2012, hitting lows unseen in but often miss targets, particularly if deadlines are more than a more than a decade. Asking and effective rents have risen for the year off. Still, there are some metros that lenders and investors last nine quarters, and in many markets rent levels are well past will want to monitor closely, given near-term projections for new peaks attained in early 2008, before the housing crash dragged construction. Analysts will want to examine both the absolute the rest of the economy down with it. change in inventory — the number of units projected to come online — as well as supply growth relative to long-term annual Figure 1 averages. Four MSAs stand out for both absolute and relative Apartment Vacancy and Rent Trends measures of risk in supply growth: Table 1 MSAs with High Absolute & Relative Supply Growth Source: Reis, Inc. The distinction between absolute and relative supply growth is important. There are also tens of thousands of apartment units planned for Dallas and Houston in 2012 and 2013, but the implied changes in inventory for these two areas are well within long-term historical ranges. Measures of supply growth risk for Seattle, Austin, suburban Maryland and Washington, D.C. rank high whether expressed in terms of absolute supply growth or increases relative to long-term averages. Source: Reis, Inc. CRE Finance World Summer 2012 10


CRE Finance World, Summer 2012
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