The Federal Reserve increased its benchmark interest rate by an additional 75 basis points for the fourth straight time. There was little doubt as to what would be announced yesterday given the current situation and the government’s resolve to bring inflation down to the 2% level it considers desirable.
Following the Federal Open Market Committee, or FOMC, meeting in November, the Fed issued a press release stating that recent data point to modest expansion in spending and production. Recent months have seen a strong increase in job creation, and the unemployment rate has stayed low. The pandemic’s effects on supply and demand, rising food and energy costs, and other pricing pressures are all still being felt in the form of soaring inflation.
Additionally, the conflict between Russia and Ukraine and related issues like pressure on energy costs and supply chain disruptions for key foods are adding further upward pressure on inflation and dragging on global economic activity.
Then there was the increase in unfilled positions to 10.7 million, which, according to the Bureau of Labor Statistics, largely offset the decline in August. The Fed has been looking for news that shows drops in prices as well as an increase in unemployment. However, according to different BLS data, unemployment rates were higher in 27 regions and stable in eight areas in September compared to a year earlier.
However, the Fed has come under increasing amounts of fire. One common issue is that it takes many months for rate adjustments to have an impact and ripple across the economy. The Fed has taken the risk of taking action when it is unsure of what the final outcome will be by continuing to boost rates, leading to what is known as a positive feedback loop in engineering and control theory. It’s analogous to driving a car, striking a skid on a wet or snowy surface, and then turning in the opposite direction of how the automobile is shifting, potentially spinning the car 360 degrees.
As a result, the following statement from the Fed’s statement yesterday stood out: “In determining the pace of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”
It was the first sign that the Fed would scale back its rate increases in the future in order to more accurately gauge the impact of its actions thus far. However, there is no published schedule.
According to Charlie Ripley, senior investment strategist at Allianz Investment Management, the real question investors are looking for answers to is when the Fed will halt the pace of rate hikes and Chairman Powell will attempt to tiptoe around the topic as much as possible. The Fed has maintained the status quo for the time being by saying that the main goal is to see “proof” of inflation lowering, but in actuality, they need to start taking into account the natural lag between monetary policy choices and their effects on the economy.
Additionally, there was a warning about what else might occur: The Committee would be prepared to change the stance of monetary policy as necessary if risks develop that could obstruct the achievement of the Committee’s goals.
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According to Crexi users, industrial properties saw the highest price increases in September. However, there was also a noteworthy rise in the number of unpriced listings, which reflects the general uncertainty and repricing patterns in the larger commercial real estate market.
In September, the price per square foot for industrial properties on Crexi’s platform increased by 5.4%, while 20% of the new assets that were added to the site last month had no price listed. September saw an increase in industrial lease rates month over month as well, with average monthly rates per square foot climbing by slightly under 2%.
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John Chang of Marcus & Millichap notes, “It makes perfect sense to be cautious, but on the other hand, a lot of investors stay active or even ramp things up a notch when others are stepping aside.” “The agreements they make in these times frequently produce the best long-term results.”
According to Chang, the CRE market is usually “inefficient,” with variations by geography and property type. He claims that while another metro is expanding, one could encounter significant obstacles.
Chang points to the dot-com bubble as a prime example of this. The Bay Area was particularly hard-hit by the recession, but many other markets fared well and kept expanding.
According to Chang, he also exhorts investors to look for possibilities that add value. According to him, purchasing an asset now that is deemed overvalued by sales comps may be advantageous if doing so will allow the buyer to combine and enhance a number of properties, resulting in a higher return on the portfolio as a whole. According to him, uncertain times might also offer chances to purchase special assets that are rarely traded or to reposition assets.
According to Chang, the optimum moment to switch horses may be during uncertain times.
Investors must also consider where the market will be in three to five years. When purchasing properties, Chang advises using loans without prepayment penalties so that the properties can be refinanced if and when interest rates decline.
According to Chang, investors that make purchases during uncertain times frequently have fewer rivals for their business and benefit in the long run. In contrast, investors who “step to the sidelines with the herd” because they are afraid to conduct a deal during an uncertain market typically miss the best investment possibilities the market has to offer. The key to successful real estate investing is to look long-term, take advantage of opportunities, and have an eye on the future.
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While some have hailed it as the “worst bill of the year,” others have welcomed it as a long overdue move toward resolving California’s persistent housing shortage.
However, the Affordable Housing and High-Road Jobs Act of 2022 is anticipated to have a significant impact for multifamily developers in the state when it becomes law next summer, regardless of popular sentiment.
Charles “C.J.” Higley, a lawyer with the Northern California legal firm Farella Braun + Martel LLP, stated that this may potentially release a great number of properties for residential construction that have historically been reserved, by virtue of zoning, for retail or office development.
The United Brotherhood of Carpenters’ general president, Doug McCarron, stated during the signing ceremony that the law “will help generate millions of urgently needed new homes and protect the workers who will build them.”
According to McCarron, the opportunity to afford the housing they are constructing will be important for workers.
According to Higley, the legislation might also have a significant influence on developers.
In the 20 years that he has been a developer’s representative, he said, this might result in much shorter deadlines and better confidence surrounding project planning, both of which have been recognized as two of the major impediments to building.
Home rule, which Higley referred to as a “sacrosanct principle” in the state of California and grants local governments the final say in what is constructed inside their borders, is at issue.
He stated that our governance style is deeply rooted in the decentralization of decision-making to those closest to the consequences of those decisions. for good reasons. For good reasons. We tend to distrust centralized control for good reasons.
However, the outdated approach permitted other communities to turn down projects for much-needed multifamily housing. The state has reached a “tipping point” as a result of pervasive NIMBYism, even when it is driven by justifiable concerns, according to Higley.
According to one study, the bill might permit multifamily building on more than 100,000 acres in the state’s commercial corridors, which could lead to the construction of up to 2.4 million new homes. Losses in retail sales tax revenues would be offset by gains in tax revenues from residential and mixed-use developments, according to the California web-based platform UrbanFootprint, which sells tools for urban planners. This would result in a net rise in local and state tax revenues.
However, not all local governments will agree with that upbeat analysis. As legal challenges to the new law are brought forth, Higley stated that he anticipates a time of considerable uncertainty.
As the November elections draw near, what chance is there to get anything done when the main issues are winning re-elections and maintaining political power?
The Real Estate Roundtable notes, there are still a few significant “musts,” for Congress.
According to Politico, the National Defense Authorization Act and an omnibus budget bill must be passed by December 16 in that order.
The huge bill that funds the government is known as the omnibus spending bill. Without its passage, certain departments of the government will be unable to operate and will consequently experience a partial (in this case) shutdown. The NDAA is essential because it keeps the lights on at the Pentagon, the numerous military outposts, and the offices of the defense industry.
Several tax proposals are included in the list of things Politico says is likely, “(but no promises)”. Democrats want to bring back the CTC boost for children. Republicans want to reinstate a tax break that gives companies the ability to deduct their research costs right away. Those are just two of the many tax cuts that might be available during the session, along with additional incentives for retirement savings.
The Tax Policy Center notes that there are also a number of provisions from the 2017 Tax Cuts and Jobs Act that are still in effect, such as bonus depreciation for businesses and stiffer restrictions on the deduction of interest expenditures.
The Real Estate Roundtable claims that another tax-related issue is also up for debate. This is significant for the multifamily sector since “Other expired tax provisions include a temporary increase in how low-income housing tax credits (LIHTCs) are allocated to states.
Because politicians don’t bother to pay for them, tax extenders “often move without much opposition,” TPC concluded. But a grand deal with the company tax reforms connected to the CTC and TCJA won’t be cheap. The cost of the CTC in 2021 is estimated by congressional scorekeepers to be about $1.6 trillion over a ten-year period, and the business investment tax breaks will result in a $400 billion decrease in federal revenue. There is still no official estimate for lowering the cap on net interest deductions at this time.
What’s interesting to think about is where does the funding for these prolonged tax breaks come from?
We are ready to assist investors with Santa Ana commercial properties. For questions about Commercial Property Management, contact your Orange County commercial real estate advisors at SVN Vanguard.
According to NNNetAdvisors, average net lease cap rates increased five basis points to 5.44% in the third quarter, continuing their upward trend after reaching an all-time low in the second quarter.
However, according to the firm’s analysts, cap rates for the industry are still at their lowest point in 12 years and have lagged in responding to changes in the market. In the third quarter, the difference between the 10-year Treasury and medical cap rates fell to 1.5%, a 12-year low, down from 4% from the previous year.
As the midterm elections approach, observers of the market wonder whether the results will have any bearing on the commercial real estate market.
In a recent analysis by Trepp, Mike Flood of the Mortgage Bankers Association stated that a split Congress with Republicans in charge of the House of Representatives and Democrats still in charge of the Senate is “the most likely outcome.” Additionally, he adds, “it will be difficult to pass significant, serious, industry-changing legislation with a split Congress and two parties with different perspectives.” It would be unusual for Republicans to win enough seats in both houses to override the president’s veto, even if they win both the House and the Senate. As a result, a divided Congress or even one that is controlled by Republicans will probably struggle to adopt significant legislation that would impact our industry.
Flood points out that President Biden will remain in office through 2024 regardless of the results of the midterm elections, and since the President selects the nominees for the regulatory agencies that the CRE finance industry is concerned about, “Democrats will control regulatory agendas regardless of what happens on November 8.”
” Regulators will continue active oversight of the industry no matter who controls Congress,” According to Flood, in order to manage their annual budgets, financial regulators outside of HUD rely more on fees levied against the industry than on funds that have been specifically allocated. Therefore, aside from exercising rigorous oversight, few tools are available to prohibit regulators from pursuing their existing goals, even in a situation where Republicans control all branches of Congress.
States and the federal government may at some point apply Community Reinvestment Act standards to independent mortgage banks and non-banks, which “could bleed over to the commercial and multifamily side of the industry,” according to Flood, who also notes that the MBA has noted that “policymakers are starting to ask questions about private equity ownership of insurance companies, and what-if any-risks may be out there to mitigate” (but is currently focused primarily on the residential market).
Future SEC measures may affect CMBS and CLO issuers as well; according to Flood, “the SEC is focused on what type and whether the industry should have any disclosure requirements in at issuance and ongoing documentation. If securitization is included, such a standard would increase reporting requirements for the industry.”
He adds that the HUD MAP program, competition from the HUD FFB program, big loan limits, statutory loan restrictions, and how to make the MAP guide more effective for lenders and servicers are all problems that “HUD lenders will be looking at both offense and defense.”
Whatever the results of the election, Flood advises that CRE finance professionals be ready to speak up.
We are ready to assist investors with Santa Ana commercial properties. For questions about Commercial Property Management, contact your Orange County commercial real estate advisors at SVN Vanguard.
Historically, seasonality has been a predictable characteristic of commercial real estate (CRE) transaction volume, which typically peaks in the fourth quarter of each year before normalizing again to start the next. However, heading into the Q4 2022, the US economy is sending mixed signals about its health.
This year’s transaction cycle could face resistance from two interrelated headwinds: Quantitative Tightening (QT) by the Fed and a potential US recession.
Since MSCI Real Capital Analytics (RCA) began tracking Commercial Real Estate volume in 2001, transaction volume, on average, has performed better during the second half of the year compared to the first, both in terms of dollars and total properties. Historically, total sales are on average 19% higher during Q3 and Q4 compared to the first two quarters, while there is a 16% increase in total properties trading hands.
As CRE investment intensified to new highs in 2021, so too did it’s end-of-year uptick. Three of the four major food groups of CRE achieved record-high transaction volume in dollar terms during Q4 2021. Office, the only of the four that did not reach a new record, still experienced its best performing quarter since Q2 2007.
While history suggests that CRE should have the wind at its back entering Q4, weather predictions have been a dicey undertaking in recent years. Recession signals are escalating, with modest warning signs already flashing in the latest real estate data. During August, US commercial property transactions continued to climb, but at the slowest rate so far this year.
The average price increase across the major property types slowed to 14.0% year-over-year in August, 260 basis points lower than July as investors continue to digest the impact of higher rates.
Further, while transaction volume from a dollar volume standpoint has sat close to all-time highs for much of 2022, less properties are changing hands, indicating that price-growth is currently being driven more by supply shortages rather than a demand-spike.
As the Federal Reserve began its rate hikes in March in a bid to tame US inflation, many wondered whether a monetary soft landing was possible, where rates are raised just enough to calm prices but not throw the economy into recession. More than a half-year into QT, the US inflation rate remains north of 8% year-over-year, and policymakers have been forced to intensify their efforts — conducting three consecutive 75 basis point increases through September.
Reacting to moves by the Fed, as well as escalating global uncertainty stemming from the War in Ukraine and various fiscal conundrums — recession risks have begun to ratchet up in recent weeks. Utilizing a model based on Treasury yields, national financial conditions, and leading economic indicators, the Conference board recently raised its probability of recession to 96% heading into Q4. Markets are increasingly fearing the likelihood that a hard landing will be needed to calm overheating prices, and policymakers appear to agree.
In their latest Summary of Economic Projections released in September, the FOMC forecasts for growth, inflation, and unemployment were all revised in the wrong direction. The average forecast for the annual change in GDP through Q4 2022 fell to 0.2%, a drop from the 1.7% growth forecast at their June meeting. The Fed also projects that, because of higher rates and slowing growth, the unemployment rate will rise modestly by year’s end, while core inflation is expected to remain above the FOMC’s 2.0% target as we turn the page to 2023.
While Quantitative Tightening’s adverse effects are visible across rate-sensitive industries, concurrently, real estate market fundamentals continue to fortify CRE’s relative stability. For example, despite a modest slowdown, prices in the Industrial sector posted a far-from-pedestrian 24.7% year-over-year increase in August, supported by large inventories, and continued spending on goods. Apartment properties, which similarly experienced price deceleration in recent months, remain up 17.1% annually and will continue to largely reflect the effects of strong housing demand amid constrained supply.
The Retail and Office sectors are also being supported by a resilient US economy. Despite two consecutive declines in annual GDP to start the year (an unofficial marker of a recession), a combination of steady job growth, low unemployment, and robust consumer spending hasn’t resembled a typical recession. So far, this year’s decline in output reflects a pullback in private and residential investment and government spending, while inflation-adjusted consumer spending remains positive, averaging 1.9% year-over-year during the first half of 2022. Personal spending continued to rise in August (+0.4%), beating most market forecasts despite declines in energy spending amid falling gasoline prices. Meanwhile, retail sales climbed 0.2% between July and August, inventories ticked up, and the recent start to the school year helped push office occupancy levels to a new post-pandemic high.
Future rate hikes could begin to dampen demand if inflation continues to force the Fed’s hand, further pushing down on
price growth. On the other hand, supply and labor issues continue to make new construction projects challenging, which in turn, is providing a floor for property prices. According to July data from the Jobs, Opening, and Labor Turnover Survey (JOTLS), there are currently 375,000 construction job openings through July 2022, up 22k and 28k from the prior month and the same point last year, respectively. Unemployment claims also recently fell below 200,000 per week, which is supporting
prices through both limited labor supply and durable incomes.
The Q3 Real Estate Roundtable Sentiment Index showed continued optimism regarding the underlying fundamentals of real estate, despite some caution about inflation and rising rates in the short term. Other longer-term trends developing in real estate also remain at play. Remote work continues to play a significant role in driving local housing demand— accounting for more than half of all price increases between November 2019 and November 2021, according to recent research by the San Francisco Fed. The work-from-home renaissance appears to be here to stay and will remain an anchor of some of the best markets for Apartment investment. Additionally, the pandemic-era shift in goods consumption appears to have a degree of permanence, which combined with the upcoming holiday shopping season should provide some support to Industrial and Retail in Q4. Meanwhile, a takeoff in Life Sciences is driving new opportunities for the Office sector.
Recent volatility in the stock market has made commercial real estate even more alluring to investors seeking security in the midst of the mayhem.
According to John Chang of Marcus & Millichap, “I think it gives everyone a little heartburn to watch the S&P 500 tumble by more than 6% in just over a week.” But this trend has been present in the stock market for some time.
CRE values typically fluctuate more slowly than stock market values. They also tend to be less spectacular, “he argues,” pointing out that commercial real estate pricing has mainly remained stable over the last 20 years, despite “enormous” quarterly price changes.
The fact that CRE has delivered a compound annual growth rate of 7.8% since 2000, outpacing the S&P at 5.3%, further emphasizes this thesis.
Although it still experiences ups and downs, Chang notes that they are often far more moderate than those seen in the stock market.
