WHAT ARE THE PROS AND CONS OF DELAWARE STATUTORY TRUSTS?
by: HUDSONPOINT Team | October 31, 2021
Delaware Statutory Trusts (DST) provides real estate investors with one of the most efficient ways of obtaining tax-efficient, fractional ownership interest in commercial real estate. A DST is similar to a limited partnership in that a group of investors (otherwise known as partners or beneficiaries) acting as minority owners contribute capital and resources to the trust, where the master partner (or sponsor) then manages the assets and holdings that the trust owns.
A DST can hold title to multiple properties in several locations at once, similar to a REIT (Real Estate Investment Trust). In return for their capital and resources, the minority owners receive limited liability, a pro-rata share of income and cash distributions, and access to commercial real estate investments for which they may otherwise lack the capital.
The use of the DST for commercial real estate investors grew in popularity in 2004, after the IRS ruled that ownership interests in a DST qualify for the tax benefits granted by a 1031 exchange, or “like-kind” exchange, a tool that allows real estate sellers to defer capital gains tax by rolling proceeds from one real estate investment directly into another within a set timeframe.
The Pros of Delaware Statutory Trusts
DSTs incentivize the growth of real estate wealth not only through the passive, hands-off nature of their investments but through their tax benefits, low costs of ownership, and diversification potential.
DST investors can invest in just about every type of commercial real estate property, including multi-family housing, industrial real estate, retail buildings, office spaces, and even specialty property types such as medical offices and self-storage units.
An individual investor who owns a single-family home leases it out, and manages it entirely by themselves may see similar or greater returns from the commercial real estate investments offered by DSTs minus the woes of property management and other components of hands-on investing.
1. Tax Benefits through the 1031 Exchange
The 1031 exchange has historically been a popular way for individual real estate investors to defer and recapture capital gains tax by reinvesting the proceeds from one sale into another.
The 1031 exchange was originally introduced as part of The Revenue Act of 1921 under Section 202(c); after multiple revisions, in 1954, an amendment to the Federal Tax Code changed the section applicable to tax-deferred, like-kind exchanges to Section 1031 of the Internal Revenue Code.
Now, since their 2004 ruling, the IRS allows DST investors to claim the same tax benefits granted to individual investors using 1031 for a sale and, as a result, preserve all of the sale’s equity. These benefits apply as long as the proceeds from the sale of a relinquished property are reinvested into a “like-kind” replacement property of equal or greater value within 180 days of the relinquished property’s closing date.
2. Low Ownership Costs & Investment Minimums
Unlike other ownership structures like the tenant-in-common (TIC) agreement, investors in DSTs are not required to maintain any type of individual legal structure on their own. The State of Delaware does not charge any type of ongoing fee for the creation and management of a DST either, and investment minimums can run as low as $100,000 for 1031 exchange investors and $25,000 for cash investors.
It’s also more difficult for investors in a tenant-in-common agreement to obtain financing from lenders since each co-owner in the agreement is also a co-borrower. The sheer amount of paperwork involved in acquiring these loans often turns lenders away from TICs.
This is not the case, however, with DSTs. They’re financed with non-recourse debt and their investors, given their purely passive relationship with the trust, are not responsible for any liability on loans. All debt liability falls on the shoulders of the DST’s
sponsor.
3. Portfolio Diversification & Monthly Cash Distribution
Delaware Statutory Trusts give access to commercial real estate investments for which most individual investors would otherwise lack the capital. Combining that with the fact that the investors themselves don’t actually have to do any of the property scouting and securing work makes portfolio diversification even easier for DST investors.
The rental income that DST properties generate is distributed directly to the investors’ bank accounts on a monthly basis, and investors can expect anywhere between a 5% and 9% cash-on-cash monthly rate of return.
The Cons of Delaware Statutory Trusts
Despite their benefits, DSTs face illiquidity due to real estate being their primary underlying asset with long-term hold periods of 5 to 10 years. DSTs are also vulnerable to macroeconomic trends, such as rising interest rates and periods of recession, that tend to put downward pressure on earnings.
The IRS puts a great deal of strain on DSTs in the form of regulatory constraints; for example, to benefit from a 1031 exchange, you need to plan several months in advance to ensure compliance with IRS guidelines, and a single mishap can halt the entire process.
Despite their benefits, DSTs face illiquidity due to real estate being their primary underlying asset with long-term hold periods of 5 to 10 years. DSTs are also vulnerable to macroeconomic trends, such as rising interest rates and periods of recession, that tend to put downward pressure on earnings.
The IRS puts a great deal of strain on DSTs in the form of regulatory constraints; for example, to benefit from a 1031 exchange, you need to plan several months in advance to ensure compliance with IRS guidelines, and a single mishap can halt the entire process.
1. Sensitivity to Macroeconomic Trends
Similar to commercial real estate investments in and of themselves, Delaware Statutory Trusts are sensitive to the debt cycles of the economy and how much it costs to borrow money. Investors should stay informed on monetary policy and monitor moves made by the Federal Reserve to keep a healthy track of their investments, no matter how passive.
Remember that no debt liability falls on the shoulders of the trust’s beneficiaries, so at the very least, minority owners don’t have to worry about making loan payments in spite of poor investment property performance.
The tax laws and regulations that govern DSTs top the list of debate topics adored by Congress. Combine this with the fact that DST transactions often involve many moving parts and you have a sales process that halts at the first sign of weakness, delaying cash flow and successful completion of the exchange.
If your DST has investments in other states outside of Delaware, you’ll have to file a state income tax return with each state wherein your trust has investments, increasing expenses on your part as your CPA takes time to prepare and file each one.
3. Atypical Fees & Commissions
While the costs of ownership for a DST are lower than other ownership structures, some of the upfront transaction fees you’ll encounter as an investor in a DST are atypical. These include:
Sales commissions. It’s customary for third-party sales groups, like registered investment advisors, to conduct most of the DST’s investment sales. As such, these groups collect their own shares of the profits.
Broker-dealer fees. Managing broker-dealers expect compensation in return for their marketing and market research efforts on behalf of the DST, among other services like securities compliance.
Operating expenses. These include the costs of actually running the business, including securities registration, printing costs, and other operating expenses.
Finder’s fees. This type of fee is paid by the investors to the sponsor for locating and acquiring the DST’s assets. On top of that, the sponsor may require additional fees from investors for obtaining financing.
These aren’t the only types of fees you may encounter as an investor in a DST, but they’re some of the most common.
As with any investment, there are risks involved in a DST. Risks such as mismanagement of the portfolio, poor use of leverage/capital, and a collapse of the portfolio. Understanding these risks and performing your own due diligence prior to investing in a DST can minimize these risks.
We are ready to assist investors. For questions about Commercial Real Estate Management and Retail Property Management, contact your Orange County commercial real estate advisors at SVN Vanguard.
by Eric Stewart |
For years, I’ve been saying that one of the best reasons to invest in commercial real estate is its incredible tax benefits. For investors and landlords alike who want their money-making work while they enjoy life with all those extra income checks coming from owning property on behalf of others; there really isn’t anything better than finding new ways how we can maximize our earnings by taking advantage of every aspect possible regarding what type(s) of space will give us sweetest return!
Commercial real estate investors get more than just a good deal from their investments. They can also take advantage of tax breaks that no other type of investing offers!
Let’s take a look at these benefits now!
Interest write-offs
Commercial real estate can be one of the only assets on earth that pays you as it ages and degrades! You may have heard about how commercial properties often generate more income than most people spend on rent, but did you know there’s a good chance this will continue to happen even when interest payments are taken into account? Don’t let your mortgage payment go towards someone else’s profit—write those off instead.
You’ll also come out ahead if they pay legal fees or marketing expenses since these represent costs borne solely by landlords without any benefit from their investment beyond keeping up appearances (and maybe inadvertently creating some).
Depreciation advantage
Commercial buildings begin depreciating the minute you acquire them. The asset may not be “physically” decreasing in value but make no mistake: every day, it gets older and thus less valuable
As properties wear out over time (and thanks to depreciation), owners can deduct certain amounts from their taxes each year before applying any income against what was originally earned; this is called “depreciation expense.”
On an expenses list, depreciation is the process of claiming less for each expense as time goes on. This means that you can walk away with more after taxes since it’s not actually coming out of your pocket! So if you own your building, there is no better time than now to make sure that all possible tax benefits have been taken advantage of before preparing any financial statements!
QBI deduction
If you’re in the real estate business and have been running your company for profit this past year then there might be some good news! The new Tax Cuts And Jobs Act allows businesses to take up an additional 20% tax break by claiming Qualified Business Income (QBI).
This means that as long as they meet certain requirements such as being sole proprietor or owned solely through one member LLC – these entrepreneurs can now deduct their profits from salaries paid out. So commercial real estate investors may now benefit from the benefits of pass-through taxation-which includes being able to take advantage of this very incentive!
Write off against capital gains
The depreciation and interest expense deductions help lower the income tax burden, but they can’t be written off against capital gains. However, there’s an option for real estate investors: 1031 exchanges! This means that when you sell your commercial property – instead of reinvesting in another one through a simple sale agreement with no strings attached-you get cashback (or put it towards something else).
The catch? You have to work alongside this qualified intermediary who will hold onto all profits from each transaction while helping facilitate deals among different parties interested at various levels.
But the beauty about investing through a 1031 exchange is that you get to use your capital gain as an investment opportunity. Since taxes on those profits won’t be incurred, there will always be more money for future purchases!
We are ready to assist investors. For questions about Commercial Real Estate Investment and Commercial investment properties, contact your Orange County commercial real estate advisors at SVN Vanguard.
BY GREG CORNFIELD FEBRUARY 15, 2022 The multifamily sector led the fourth quarter with $136 billion, and for the year with $315 billion.
Business isn’t just back, it’s booming like never before.
A record-high $746 billion was invested in commercial real estate in the United States in 2021, including an incredible $296 billion in the fourth quarter, which is also a record over three months, according to a new report from CBRE.
Those measures show an 86 percent increase over the previous year, when the pandemic hit, and a 90 percent increase over the fourth quarter of 2020, respectively. For comparison, CBRE estimated that total U.S. investment for all of 2019, before the pandemic, was $573 billion, and the fourth quarter that year accounted for $173 billion.
The multifamily sector led the way in the fourth quarter with $136 billion, and for the year with $315 billion, according to the report. With persistent supply chain issues and an ever-growing e-commerce sector, industrial real estate took in the second-most investment in the fourth quarter with $64 billion, up 55 percent year over year. Office investment also surged in 2021 compared to the year prior, up 73 percent to $50 billion, as a significant portion of workers returned to the office in some fashion last year.
CBRE also noted that private buyers accounted for the largest share of investment volume in the final quarter last year with $143 billion, for nearly one-fifth of the total. And real estate investment trusts and public companies traded $35 billion.
Among individual markets, Greater Los Angeles led 2021 for investment volume with $58 billion, which was 83 percent higher than in 2020, and it was 18 percent higher than in 2019. L.A. was followed by New York with $49 billion in 2021, and Dallas with $41 billion, according to CBRE.
Meanwhile, among regions, the Sun Belt markets showed the strongest year-over-year growth rates. Las Vegas investment jumped 232 percent since casinos were shut down in 2020. Houston jumped 191 percent, which was the largest increase among the top 20 markets, and South Florida increased by 179 percent. South Florida also saw a 228 percent increase in office investment with $5.2 billion and a 240 percent jump in multifamily with $13.1 billion.
The Washington, D.C., region saw the 10th-highest investment, for a 52 percent increase over 2020.
Overseas investors brought in 115 percent more in the fourth quarter of 2021 than the same period in 2020. Foreign capital accounted for $56 billion, or 7.5 percent of total investment volume in 2021. Canada was the largest source of foreign capital in 2021 with $21 billion, followed by Singapore with $15 billion. The mix is starkly different from when China led the list by a wide margin some years ago.
We are ready to assist investors. For questions about Commercial Real Estate Investment and Commercial investment properties, contact your Orange County commercial real estate advisors at SVN Vanguard.
By Michael Gerrity | January 28, 2022
U.S. warehouse leasing activity in 2021 breaks all-time record
According to a new report by CBRE, the U.S. industrial & logistics market hit new highs for leasing activity in 2021, recording more than 1 billion sq. ft. of transactions.
That 1 billion sq. ft. is the largest annual gross amount recorded since CBRE started tracking the figures in 1989. Last year’s surging activity drove vacancy down to 3.2%, the lowest on record. With space incredibly tight, asking rental rates shot to $9.10, up 11% year-over-year and a new high.
“We anticipated that last year would set a record, but this level of activity is extraordinary,” said John Morris, executive managing director and Industrial & Logistics Leader for CBRE. “As retailers require more safety stock and e-commerce continues to expand, more space is needed. All signs point to the same demand continuing in 2022.”
On a net basis, the market registered positive absorption of 432 million square feet, an 81 percent increase from 2020 totals. Last year’s net absorption outpaced the previous record in 2016 by 50 million sq. ft. Net absorption measures total leasing activity – that 1 billion sq. ft. – against the amount of space newly vacated in that period.
The construction pipeline is robust, with a record 513.9 million sq. ft. of projects under construction at year end, 200 million sq. ft. higher than this time last year. However, construction completions were down 10.3 percent year-over-year as supply chain issues have hampered the construction timeline for many projects due to a scarcity of materials.
“We will need to see significant construction completions this year to accommodate all of this activity,” said Morris. “Developers will likely take on more construction and materials costs to keep pace with demand, but space will remain very tight and rents will likely continue to rise at considerable rates.”
We are ready to assist investors. For questions about Industrial Real Estate for Lease and Industrial Property Management, contact your Orange County commercial real estate advisors at SVN Vanguard.
By Rainer
It’s essential to understand various forms of ownership and how they affect your financial situation before investing. Most people seem familiar with the most common form of taking real estate title, which is fee simple ownership. However, it’s worth noting that there are other forms of ownership such as leasehold ownership and ground lease ownership.
The three types of land ownership are very different from each other from a value perspective. Therefore, it is necessary to understand each of them in-depth, especially if you wish to become a real estate investor. Here are some basics to help you understand the pros and cons of the three.
Fee Simple Ownership
Mainly it’s the most common form of ownership whereby buyers gain full possession of the property after purchase. It gives you total dominance over the buildings on the property, ponds, roads, and other machinery available. Further, you own right to the minerals under the surface and air above.
Additionally, it gives you the freedom to do whatever you wish with your property. As a legal owner, you can dispose of it when needed and make improvements based on your preferences. You hold the property in perpetuity, and you can sell, lease, trade, or give it away as inheritance upon death.
Nobody can take the real estate form from a fee simple owner aside from a few exceptions. With this form of ownership, you won’t have to pay any rents, only some property taxes, and maintenance fees. Thus, most people prefer to purchase property in the fee simple ownership form.
In fee simple ownership, you own the land on the ground along with the building sitting on top of the land. Since you also own the building improvements, you can take advantage of real estate tax depreciation.
Advantages of Fee Simple Ownership
You have total control over the premises. With no restrictions, you can choose to transfer part or the whole property through sale or will.
It allows you to access financing easily. You can utilize the possessions as collateral to buy other items, which might seem difficult in different ownership types. Meaning that you can borrow on the property, and more lenders will be willing to offer you financing since your property is easily used as collateral.
It offers optimal freedom since you can decorate or renovate your property as you pleased.
You also have the liberty to decide when, where, and the cost of maintenance required for your premises.
Disadvantages of Fee Simple Ownership
All payments associated with the property falls in the hand of the fee simple owner. You may need to pay taxes, mortgage, and maintenance fees.
It requires a massive initial investment since you are paying for the building improvements/structure.
Leasehold Ownership
In a leasehold, you can enjoy the exclusive use and possession of a property for a specified period. For instance, as a fee simple property owner, you can give another individual the right to occupy your land for a specific time at a price. Please note that although leasehold property may seem less pricey than simple fee properties, you might face some stringent financing requirements with leasehold ownership.
Under leasehold ownership, as a leaseholder, you purchase the building and structures at the specified period, but you have no right over the land beneath (aka you don’t own the dirt/ground below your building). You might own the freedom for improvements on the property, but when the agreed-upon time runs out, the premises returns to the owner.
In leasehold ownership, you own the building/structural improvements above the ground. You do not own the dirt/land below. Since you only own the building improvements above ground, you can take advantage of real estate tax depreciation.
An owner of leasehold property needs to pay the required rent in full to the owner of the land/dirt below. Further, you will only use the premises up to the years indicated in the lease agreement. Additionally, the lease rents may face adjustments, probably every 10 to 15 years. The new rent depends on the current land market value. If it increases over time, then you will inevitably pay more rent.
It’s worth noting that if you transfer the leasehold property to a new user, the individual can only use the premises for the remaining period outlined in the original lease. For instance, buyer A purchases a leasehold property with 50 years remaining on the base lease term. He then decides to sell the interest to buyer B 10 years later. Buyer B’s terms on the premises stand at 40 years remaining on the base term.
Advantages of Leasehold Ownership
It requires a lower initial investment since you are only paying for the building/structural improvements. The leasehold property costs far less expensive than the fee simple and is thus more affordable since you are not paying for the land/dirt on the ground below.
You may have the chance to extend or renew your leasehold after the specified base lease term ends with the ground owner.
If the ground owner wishes to sell the remaining interest on the property, you will buy it based on the remaining lease time of the leasehold and the underlying land value.
You may enjoy higher levels of tax depreciation (consult your CPA!)
It’s a flexible option. Instead of owning a property that you may need to sell in the future, businesses can lease the premises to work on region-specific projects and then leave after accomplishing their objectives.
Disadvantages of Leasehold Ownership
At the end of the lease period, you need to give back the building/structural improvements to the landowner unless you negotiate for an extension.
You will find lots of difficulties obtaining financing with most lenders.
With time, the property becomes less valuable. You may, therefore, find it harder to sell or obtain financing.
Most leasehold interests require regular payments to the landowner while on a fee simple property, you buy it and pay off outright.
The leasehold property seems a little bit hard to sell out since most buyers prefer fee simple ownership.
You may face restrictions on the use, maintenance, and alterations in the leased property.
In case of a surrender clause in the lease, the building, and other improvements may revert to the lessor.
The leasehold doesn’t feel like real ownership. After all, you will have to let go of the property eventually. All you own is an agreement outlining your right and responsibilities on the premises.
Ground Lease Ownership
Ground Lease ownership is when you own the land (aka the dirt/ground below the building). The tenant (aka lessee) will be responsible for the building and structural improvements above your land.
Explain like I’m five years old (ELI5): Imagine a birthday cake with two layers. The bottom half is the “ground lease” layer. The top half is the “leasehold” layer. All together, the entire cake makes up “fee simple” ownership.
If you only own the bottom, you have a “ground lease.” If you own the top, you have a “leasehold.” If you own the whole thing, you have a “fee simple.”
Advantages of Ground Lease Ownership
Lower cost to develop or purchase compared to fee simple ownership.
Lower rent and taxes are beneficial for both landlord and tenant.
The landowner will receive the building at the end of the lease term without paying for the construction or original build.
Disadvantages of Ground Lease Ownership
Since you do not own the building structure or improvements, you cannot take advantage of real estate tax depreciation.
Ground lease Cap Rates are typically lower than fee simple NNN or NN yields since they are perceived with even less risk.
Since the tenant is paying for the structural and building improvements, the landowner has no control over the improvements.
Things to Consider Before Choosing Fee Simple, Leasehold, or Ground Lease Ownership
Now that you know the three main types of land ownership for commercial real estate investors, you need to keep several considerations in mind. Make sure to review the time left on the lease agreement and the required amount of rent payable to the lessor. Also, confirm the leased fee interest and the terms of reversion outlined.
Further, you may want to determine whether there is a provision to extend the lease term or resell it. Remember to check the lease rent renegotiation dates and other fixed periods to help make an informed choice.
Choosing Between Fee Simple, Leasehold, and Ground Lease Ownership
The decision to go for either of these land ownership types depends on personal preferences and the premises’ purpose. The main difference between the three is that you need to pay rent to the original owner in leasehold interest. In contrast, you own the premises for fee simple and ground lease properties, and you may enjoy some income if you choose to rent it out.
To make the right choices, please determine how much time you plan to use the property. The fee simple ownership works best for individuals who seek permanent ownership and full property control. Also, it’s an excellent alternative if you wish to enjoy full ownership rights with minimal restrictions. Besides, you may consider this form of ownership if you want to leave property to your heirs, or use it as collateral for financing in the future.
The leasehold ownership will suit you best if you wish to have the benefits of use at a fraction of the property market value. You will only pay for lease rent that is much less than the mortgage price of the entire property including land. Still, you can consider this type of ownership if you have no heirs, are only looking for short-term ownership, or in dire need of property depreciation benefits.
Conclusion
As you can see, the main differences in these three forms of property ownership are diverse and can significantly affect your real estate value. Understanding these land ownership forms will help you avoid the possibility of a successful exit, improper sales, or prevent other undisclosed property issues in the future. The above piece outlines apparent differences between fee simple, leasehold, and ground lease ownership so that you can select depending on your current position. Remember that the fee simple is the most pre-eminent form of ownership that grants you full control over the premises. On the contrary, the leasehold and ground lease offers you ownership at lower costs but with more restrictions. Here is a book that I highly recommend all investors and brokers to read in regards to mastering the different types of leases.
We are ready to assist investors. For questions about Commercial Real Estate for Lease and Commercial Property for Lease, contact your Orange County commercial real estate advisors at SVN Vanguard.
By Ted Knutson | February 04, 2022
Headwinds are likely to moderate expansion for 2022.
Commercial real estate had a banner year in the Americas but headwinds are likely to moderate expansion for 2022, says a new report from CBRE.
“Another year of investment growth is expected in 2022, albeit at a more moderate pace than in 2021,” said Richard Barkham, Global Chief Economist for CBRE. “Continued economic growth and low-interest rates will fuel investment activity. Headwinds, such as rising inflation, geopolitical tensions, and the potential for a COVID-19 resurgence, may cause some jitters in Q1 2022.”
CBRE estimates that annual global investment volume will increase by roughly 8% in 2022, Barkham added.
This reflects a similar assessment the National Association of Realtors made in January when it said that commercial real estate can be expected to perform well this year despite the prospect of higher interest rates.
Annual investment volume surged 86% to nearly $776 billion in the Americas with the fourth quarter record having a volume of $305 billion, up by 90%, CBRE said.
The fourth-quarter increase, CBRE said, was fueled by 116% growth in multifamily investment volume as Sun Belt markets continued to see robust growth, while gateway markets began to recover—particularly in high-quality office assets.
The multifamily sector’s share of total investment grew to 45% in Q4 2021, up from 41% in Q3 2021 and above its 2015-2019 of 28%, driven primarily by Sun Belt markets with gateway markets such as San Francisco, Los Angeles, and Chicago all had year-over-year growth of more than 110%.
In the fourth quarter, the industrial sector accounted for 22% of total investment volume on par with growth in the previous two quarters but down from its pandemic-era high of 27% the same quarter a year earlier.
Industrial investment increased 55% year-over-year to $64 billion in the last quarter of 2021 with full-year investment in the sector increasing by 53% year-over-year to $160 billion.
Retail investment increased by 119% year-over-year to $34 billion in Q4 2021, accounting for 11% of total investment volume in the period, its highest share since Q2 2020.
The full-year increase for retail was up 84% to a total of $74 billion.
The office sector saw its share of total investment falling to 17%. At the same time, the office market captured its highest quarterly volume of $120 billion since Q4 2018—an increase of 73% from Q4 2020 and 19% from Q4 2019.
Full-year 2021 office investment volume rose by 55% from 2020 to US$136 billion—just 5% shy of 2019’s total.
Hotel investment showed particular strength, rising 142% year-over-year in Q4 2021 to $12 billion, helping to take a full-year volume to $43 billion, a 238% increase from 2020.
We are ready to assist investors. For questions about Commercial Real Estate Investments and Commercial investment properties, contact your Orange County commercial real estate advisors at SVN Vanguard.
1. GDP
Real GDP, which measures inflation-adjusted economic growth, increased at an annualized rate of 6.9% in Q4 2021, according to the advanced estimate released by the Bureau of Economic Analysis on January 27th. Q4’s reading is 4.6% above the Q3 2021 estimate.
According to the bureau, the increase in growth during Q4 is largely contributed to increases in private investment, exports, and consumption. Government spending decreased during the quarter, while imports, which have a negative effect on GDP numbers, increased.
Retail and wholesale trade industries led private inventory investment, with motor vehicle retailers leading the pack. Both goods exports and service exports increased over the quarter. Within goods exports, consumer goods, industrial supplies, and materials, as well as food and beverage, led the increase. Service exports were led by increases in foreign travel expenditures.
Healthcare, recreation, and transportation services led an increase in consumption, a notable trend given the relative growth of goods-consumption over service-consumption throughout much of the pandemic.
Non-residential fixed investment also increased in Q4, led by an increase in intellectual property products.
2. FED HOLDS INTEREST RATES
Federal Reserve officials held the Federal Funds rate unchanged during their most recent policy meeting on January 26th. Still, they indicated a willingness to conduct their first rate hike in March, citing a tight labor market and persistent inflationary pressures.
In arguably his most hawkish signals to date since the COVID-19 pandemic began, Fed Chair Jerome Powell stated that officials no longer felt that monetary support was needed to sustain the rapidly recovering economy. Powell noted that “the committee is of a mind to raise the federal funds rate,” assuming that conditions hold during the FOMC’s March meeting.
While Powell stopped short of suggesting how many rate hikes could come in 2022, he noted that the pandemic recovery and expansion have been very different from past recoveries— most notably the high inflation levels and stronger growth rate. He stated that markets should expect upcoming policy decisions to reflect this reality.
3. STOCK MARKET VOLATILITY
The stock market has recently experienced increased volatility as markets pay close attention to the timing and scope of the Federal Reserve’s anticipated rate increase. On January 24th, the S&P500 fell as much as 4% during trading before bouncing back into positive territory. Markets experienced similar swings throughout the week as investors digested statements from Fed policymakers indicating a more hawkish stance on monetary policy.
Tech stocks have suffered some of the steepest losses through the week, with the tech-heavy Nasdaq 100 underperforming all major indices on January 26th.
According to a tally by Bloomberg, more than $5 trillion has been wiped out from stock values this year. While markets have generally anticipated a monetary tightening cycle beginning this year, most projections were in the range of two-to-four rate hikes by year’s end. However, since Chair Powell’s statement earlier in the week signaled his belief that the Central Bank should no longer need to support the economic recovery with accommodative rates, market forecasts have risen to an average of five rate hikes in 2022.
4. MORTGAGE RATES
The Mortgage Bankers Association reported that the average rate on a 30-year mortgage jumped for the fourth consecutive week to 3.64% during the week ending January 14th. This is the highest rate on the 30-year mortgage since March 2020.
In recent weeks borrowing costs have climbed as bond markets react to the likelihood of monetary tightening by the Federal Reserve in the coming months.
On the one hand, the rise in costs has come with a refinancing drop-off. However, as prospective homeowners look to lock in lower rates in anticipation of higher rates on the horizon, lenders have noticed an increase in home-purchase loan applications. According to MBA, home-purchase applications rose 7.9% during the week ending January 14th. Refinancing applications dropped by
3.1%— its lowest mark in over two years.
5. EVOLVING DEMOGRAPHICS OF THE APARTMENT MARKET
A recent study by MetLife Investment Management analyzed the evolving demographics that are likely to shape the future of apartment demand in the US. In their report, researchers indicated an anticipated 11 million new households will be formed in the US between now and 2030.
Separate from the cyclical factors observed during the pandemic, the analysis predicts several longerterm structural factors that have and may continue to exert upward pressure on residential prices and rents in the coming years. An immediate standout is the low rate of new construction experienced over the past decade. According to the report, the US housing stock ticked up just 0.3% each year from 2010 to 2020 compared to a 1.4% average annual increase between 1980 and 2010.
Demographically, aging Baby Boomers and family-forming Millennials stand out as the cohorts likely to fuel apartment rents over the coming decade. Baby Boomers are increasingly less likely to live their senior years in retirement communities than previous generations, which is already impacting available housing supply but may also contribute to rent inflation as homeowning responsibilities become burdensome for aging households. Aging Millennials who also face increased financial constraints in
student debt and low savings are also likely to contribute to rent pressures, particularly in single-family rentals.
Further, remote workers will also increase rent costs as they migrate away from the urban centers and sort into communities that more fit their living preferences.
6. OFFICE DEMAND
The VTS national Office Demand Index (VODI) finished the year at 58 in December, representing a decline of 33% since August and the fifth straight month of deterioration. The metric represents current Office demand as a percentage of a 2018-2019 benchmark to help quantify the effects of COVID-19 on the sector.
VTS notes that declines were due to some leveling off after pent-up demand led to a surge in the index in 2021, culminating in a reading of 87 in August 2021. The decline in the year’s closing months could also be related to pandemic-driven economic and health concerns. The December drop in demand was less than expected before the pandemic. Demand fell 2-to-3 times more in December 2018 and 2019 than it did in 2021.
Each metro that VTS produces data for has seen office demand decline from its 2021 peaks. In 2021, peak-to-current declines ranged from 30.8% in Seattle to 50.5% in Washington DC. This translates into the December metro-level VODIs showing demand as low as 33 in Boston and as high as 72 in Seattle.
7. INDEPENDENT LANDLORD RENTAL PERFORMANCE
Research by Chandan Economics suggests that the on-time collection rate for independently operated residential properties was 80.7% in January, up slightly from December’s rate of 80.1%. The improvement puts the on-time collection rate about one percentage point below the 81.7% seen in March 2020 – the last full month before the start of the pandemic. On-time collection rates have improved for three consecutive months.
On-time collection rates in the Sun Belt region have underperformed the rest of the market of late. The first estimate for January 2022 shows on-time collection rates average 79.3% in the Sun Belt compared to 80.6% outside of it. Due to rapid migration and strong economic fundamentals, local property markets are generally strong in the Sun Belt. Still, rising rents could also be pressuring existing tenants to adjust to a new equilibrium.
On-time collection rates in single-family rentals averaged higher than other property types in recent months but dipped by 93 basis points (bps) month-over-month to 79.4% in January’s first estimate. Notably, other property types’ on-time collection rates are trending up. On-time collection rates have improved for five straight months in small multifamily properties and three months in a row for 2-4 unit properties. In January’s first estimate, both property types had on-time collection rates averaging just
under 81%.
8. UNEMPLOYMENT CLAIMS
For the first time in four weeks, initial jobless claims fell from the week prior, an early signal of the Omicron variant’s fading effect on labor markets.
During the week ending on January 22nd, seasonally adjusted initial claims were 260k, 30k less than the previous week. However, the 4-week moving average for initial claims rose by 15k, settling at 247k.
Continuing unemployment claims, which measures all non-first-time applications, rose by 51k to 1.64 million during the week ending January 15th, the latest week of data availability.
While the federal government and most states have sunset extended unemployment benefits that were available during the pandemic, New Jersey and New Mexico still have supplemental benefits available.
Notably, in December, first-time unemployment claims fell to their lowest level in over 50 years, indicative of a tight labor market where employers who typically make job cuts following the holiday rush are retaining workers amid a persistent labor shortage.
9. NEW RESIDENTIAL CONSTRUCTION
According to the Census Bureau’s latest report, building permits for privately-owned housing units rose by 9.1% month-over-month in December to a seasonally adjusted annual rate (SAAR) of 1.87 million. This is 6.5% above the December 2020 rate.
Notably, real estate tax changes enacted in Philadelphia, PA, for residential projects permitted after December 31st had the effect of pushing up averages in the Northeast region. Permits issued in the region rose by 112% from November to December.
From November, housing starts rose 1.4% to a SAAR of 1.7 million in December. This is 2.5% above the December 2020 rate of 1.66 million housing starts.
Completions fell 8.7% from November to December to an estimated SAAR of 1.3 million. This is 3.9% below the December 2020 rate of 1.38 million completions.
Overall, roughly 1.33 million housing units were completed in 2021, 4.0% above the 2020 figure of 1.29 million.
10. INCREASED SOFR ACTIVITY
According to recent reporting by Bloomberg and documented activity at the Chicago Mercantile Exchange, futures activity surrounding the Secured Overnight Financing Rate (SOFR), the industry’s replacement for the historically used LIBOR rate has increased in recent weeks as speculation increases over the Federal Reserve’s policy plans.
According to the CME Group, SOFR open rates have climbed to a record 2.27 million contracts, roughly 20% of total Eurodollar volume. Daily, SOFR versus Eurodollar activity has risen from 10% in October to above 30% at the beginning of January.
SOFR, like LIBOR, is meant to serve as a benchmark interest rate for dollar-denominated loans. The transition to SOFR is expected to increase long-term liquidity but also result in substantial short-term trading volatility in derivatives markets
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The Consumer Price Index (CPI) rose by 7.0% year-over-year in December, its highest increase in almost four decades. CPI climbed by 0.5% month-over-month in December on a seasonally adjusted basis, 30 basis points lower than November’s 0.8% increase.
Shelter and used vehicles contributed the largest 12-month gain to the index in December, rising by 4.1% and 37.3%, respectively. Energy costs have risen by 29.3% since December 2020, while food costs have also continued to climb steeply, registering a 6.3% year-over-year increase.
The “Core-CPI” figure, which excludes food and energy price increases, rose by 5.5% year-over-year and 0.6% from November.
In separate statements given during their respective confirmation hearings in recent days, Fed Chair Jerome Powell and Vice-Chair nominee Lael Brainard signaled a heightened concern about inflation and more pointed guidance toward combating it. Fighting inflation is the Fed’s “most important task,” according to a statement by Brainard during a press conference on January 13th. “We are taking actions that I have confidence will be bringing inflation down while continuing to allow the labor market to return to full strength over time.”
2. HOUSING INVENTORY
Active listings fell nationwide by 26.8% in 2021, while unsold homes, which includes pending listings, fell by 16.1% annually, according to Realtor.com’s monthly Housing Trends Report.
In the final quarter of 2021, the rate of declining inventory was faster than the corresponding period in 2020. There were 177k fewer homes on sale on average in December 2021 compared to December 2020.
On average, homes spent just 54 days on the market in December, down from an average of 65 days on the market in December 2020 and 80 days on the market in December 2019.
Memphis saw the highest year-over-year increase in newly listed homes in December, climbing 22.0%. Pittsburgh listings climbed 10.9% since December 2020, while Philadelphia was close behind at 10.8%.
3. RETAIL SALES
US retail sales slowed by 1.9% in December, according to Commerce Department figures released on January 14th. While a slowdown was projected as the economy entered its winter lull, the decline was much steeper than expected. It was the worst performance by retail sales in 10 months. The Commerce Department revised its November numbers to reflect an additional 20 basis increase point over the original estimate.
While December is typically a strong month for retailers as the holiday shopping season enters its peak, forecasters foresaw a decline in 2021 as pandemic-era spending trends shifted much of the holiday spending to earlier months. Still, retail declines surpassed where many experts had predicted, with 10 of the 13 categories surveyed in the report registering sales declines. Surprising to some, non-store retailers saw the steepest month-over-month decline, falling by 8.7%.
The economic impact of the Omicron variant is largely not factored into the December numbers, causing forecasters to soften their outlook for January. While Omicron’s impact on economic activity is expected to tepid compared to previous COVID waves, there are already signals that it may be dampening growth. The New York Fed’s Weekly Economic Index fell to 6.11% on January 8th, its lowest level since March 20th, 2021, but 7.7% higher than January 9th, 2021.
4. OFFICE ENTRY DATA
An analysis by Kastle Systems utilizing its office-entry systems showed office attendance remains down by an average of 60% from February 2020 through mid-December. San Francisco measured the largest fall, with office attendance down by -72%, while Austin fared the best, at just -42%.
Because the metric measures office attendance and not occupancy, it doesn’t necessarily spell out a similar decline in office demand. However, it may provide an added layer for analyzing how companies are utilizing the spaces that are leasing.
According to the analysis, Houston maintained the office market furthest away from full-health in the third quarter, with 33.4% of their Class-A office space available. San Francisco has 22.9% of its Class-A office space available, up from 7.3% in 2019. Manhattan Class-A available stands at 18.3%.
5. BALTIMORE INDUSTRIAL MARKET
According to CBRE analysis published by The Commercial Observer, the vacancy rate in Baltimore’s industrial cluster — mostly located along the North I-95 corridor — declined to 3.3% in the fourth quarter of 2021, its lowest rate in history. More than 11 million square feet of leasing activity was reported in the Baltimore, Cecil, and Hartford counties during the fourth quarter, with net absorption of 7 million square feet.
In addition to strong economic fundamentals fueling industrial leasing activity, specifically online retail, the city of Baltimore has historically maintained robust industrial activity due to its abundant workforce and proximity to nearby large metros via I-95.
The city’s port has also recently undergone an expansion, increasing the amount of available space within a strategically beneficial location for companies that rely on last-minute delivery networks.
6. SERVICE SECTOR ACTIVITY
The Institute of Supply Management reports that the service sector activity index, where readings above 50 indicate expansionary conditions, registered 62.0 in December 2021. The December reading was 7.1 percentage points below November’s measure, which had been an all-time high for the index. The index surveys purchasing and supply executives across the country and attempts to balance factors such as overall business activity, new orders, deliveries, and employment growth.
All subcomponents of the index saw growth slow on a month-over-month basis through December but remained strong as the economy shifted into its typical seasonal slowdown period. Business activity decreased by 7 percentage points from November, while new orders and deliveries fell to 61.5 and 63.9 respectively. Employment growth remained the lowest of the index’s inputs, sitting at just 54.9—only marginally in the territory of expansion.
The report also notes that the series’ price index registered in the third-highest reading ever and was 20 basis points higher than November’s reading. Inventories fell while the firm’s sentiment about inventory remained negative.
7. DECEMBER JOBS REPORT
The Bureau of Labor Statistics reported an increase of 199,000 jobs in December, coming in well below Dow Jones’ forecast of 400,000 for the month.
The unemployment rate fell to 3.9% in the month while the labor force participation rate held steady, evidence that the decrease in the jobless rate was a result of job gains and not labor force dropouts. The number of workers on temporary layoff was little changed at 812k but was 2.3% below December 2020’s level. The number of workers permanently laid off stands 408k above pre-pandemic levels, while the temporary layoffs are largely back at their February 2020 levels.
Growth has consistently undershot economists’ forecasts over the past several months, indicative of the labor shortages obscuring firms’ ability to hire. Economists’ projections were an average of 223k jobs higher than their actual totals in September, November, and December. In October, forecasters undershot the estimate by 198,000, likely an effect of overestimating the delta variant’s continued drag on hiring in the fall.
8. CONSTRUCTION SPENDING
Monthly construction spending grew slightly in November 2021 from the month prior, according to the Census Bureau’s January 3rd, 2022 update. Total spending was estimated at a seasonally adjusted annualized rate of $1.63 trillion, slightly above October’s $1.62 trillion.
November’s annualized estimate stands 9.3% above November 2020’s figure of $1.49T.
Private construction spending rose 60 basis points month-over-month, with residential construction rising by 90 basis points and non-residential construction rising by 10 basis points. Public construction spending was 20 basis points higher than in October. Within public construction, educational construction spending rose by 30 basis points month-over-month, while highway construction was 80 basis points higher than October.
9. POWELL CONFIRMATION HEARING
On January 11th, 2022, current Federal Reserve Chair Jerome Powell, who was nominated for a second term by President Biden in the fall, sat for his confirmation hearing in front of the Senate. In a notable tone change from statements made earlier in 2021, Powell indicated a more pointed concern about persistently high inflation and the need to move away from pandemic-era accommodative measures.
More specifically, he addressed concerns that by raising interest rates, the Central Bank would sacrifice one end of its dual mandate, maximum employment, to achieve the other — price stability. Powell stated that persistently high inflation, if not combatted, could be a threat to employment expansion in itself as both employer and consumer uncertainty rises as inflation expectations become unanchored.
Beyond Powell’s statements, there is evidence of a bit of a sea-change at the Central Bank as its rate setting committee rotates its pool of voting members, which will now lean more hawkish. Incoming voting members include Kansas City Bank President Esther George, Cleveland Fed President Loretta Mester, St. Louis Fed President James Bullard, and the new Boston Fed President once confirmed. The incoming voting members are known to have more hawkish positions than the members who they are replacing, which could result in a faster-tightening cycle than under a more dovish member structure.
10. WORLD BANK CUTS GLOBAL GROWTH FORECAST
In its semi-annual Global Economic Prospects report released on January 11th, 2022, the World Bank cut its forecast for global GDP growth in 2022 to 4.1%, 20 basis points below its June 2021 forecast.
The projected endemic nature of COVID-19, tightening monetary and fiscal policies, and persistent supply chain disruptions were the primary factors that led to the forecast’s decline. Further, downside risks such as de-anchored inflation expectations and increased leverage pose additional uncertainty for the global economy, according to views given by World Bank Group President, David Malpass.
There is also a divergence underway between the performance of advanced economies throughout the recovery and the performance of developing economies. According to the report, by 2023, global GDP is expected to still be below its pre-pandemic growth rate, but the gap is expected to be smaller in advanced economies. Limited resources and infrastructure have resulted in developing nations lagging more wealthy ones in vaccination rates. Poorer countries have also mounted higher debt rates in an effort to accommodate their economies during the pandemic.
Have questions about Orange County commercial real estate? Looking for Orange County commercial properties for sale and lease? Contact SVN Vanguard today.
Santa Ana becomes the first city of Orange County to pass Rent Control.
Written By: Jade Jasso | November 5th, 2021
While many cities throughout the state of California have adopted rent control policies, this has not been the case for Orange County. That is until this past October 19th, when the Santa Ana City Council (4-3) successfully passed a rent control motion into law. Santa Ana will now have a 3% cap on annual rent increases for apartment structures and mobile home parks. Moreover, Dennis Lynch from The Real Deal further states that this law gives tenants added protection as there now must be just-cause for eviction. For a better understanding of what now outlines a just-cause eviction, you can visit the City of Santa Ana’s updated explanation. This rent cap and just-cause eviction law only applies to apartments built before 1995 and mobile home parks before 1990 according to the Voice of OC, and will go into effect November 19th 2021.
So what’s included in the rent control mandate?
Rent increases capped at 80% of local inflation rate (CPI) or 3%, whichever is less.
A limited and strict petition process for owners to get a higher rent increase.
Just cause eviction requirements starting on the 31st day of tenancy.
Prohibiting evictions of households with students during the school year.
Requiring the district attorney to prosecute an individual in order to evict for criminal activity.
Mandating higher relocation assistance payments to households beyond what’s in state law.
Undetermined and unlimited fees on landlords to fund the program development, implementation, and enforcement. Most cities with this type of program charge landlords over $100/unit.
In response to what many are calling California’s strictest rent control initiative, the California Apartment Association is working to collect enough signatures to put the rent control question on the ballot.
Victor Cao, Senior Vice President of the CAA says “These laws must be put on hold so the public can fully understand the ordinances adopted by the council, and the people of Santa Ana should decide if this is the housing policy they want for the city.”
The passing of this measure comes as a surprise to some, but not to all. As La Times reports, local organizations in Santa Ana have a decades long history of rallying for rent control. Only recently have proponents of these measures gotten rent control successfully on the ballot.
Now the question is, how will this decade-long push for rent control aid or hinder future renters and landlords in the long term?
Rebecca Diamond, an associate professor of Stanford Graduate School of Business has much to say on the topic of discussion. Her article on Economic Evidence of Rent Control found that rent control helps create affordable housing in a short term span. There are also existing reports From UCLA’s school of Public Affairs that state rent controlled housing creates tenants who are recorded to rent for longer periods of time. It was examined in the city of Los Angeles and Long beach that rent controlled housing had more tenants rent for long term versus tenants in non-rent controlled housing.
Rent Stabilization Ordinances aren’t new.
Though some local governments are just now entering the rent control conversation, many areas already have long standing rent stabilizations in place. The City of San Francisco established their Rental Stabilization Ordinance in 1979. Similarly, other cities down the California coast in LA County established their RSO’s that same year or prior. The cities of Los Angeles, Beverly Hills, and Santa Monica were among the first in the Southern California region to approve such ordinances.
Our state and local governments are actively passing rental policies that will considerably change housing. This in turn will impacts how commercial real estate investors seek out real estate. It is becoming increasingly clear that for better or worse, California is moving in a direction that is open to rent control. Surrounding cities in Orange County may now look towards Santa Ana to see where the positive and negative externalities lie for renters, landlords, and investors.
It is important that your voice be heard in these debates. We encourage all investors and community members to join us in the discussions surrounding rent control and how it impacts our communities. Contact the Santa Ana Mayor and City Council here.
We are ready to assist investors with Santa Ana multifamily properties. For questions about how rent control may impact you or your investments, contact your Orange County commercial real estate advisors at SVN Vanguard.
1. GDP
Economic growth slowed in the third quarter, settling at an annualized growth rate of 2.0% after an increase of 6.7% in the second quarter. Thursday’s advanced estimates come in below most economists’ forecasts. The latest Wall Street Journal Economic Forecasting Survey projected an expansion of 3.12% in the third quarter.
The emergence of the delta variant placed downward pressure on consumer spending throughout the summer months, as some reopening efforts slowed, and consumers marginally held back spending.
Supply chain bottlenecks and a persistent labor shortage facing several industries have also contributed to the gap between expected and actual growth, as businesses across the economy signal that they are unable to meet sales demand amid the constraints.
In the third quarter, government spending took a dip as stimulus spending and grants to state and local governments declined.
Private inventory declined but was largely a reflection of increased wholesale and retail trade, led by motor vehicles and parts dealers. Imports increased during the quarter relative to exports, causing a negative impact on GDP growth.
2. WSJ ECONOMIC FORECASTING SURVEY
According to the newest projections out from the Wall Street Journal Economic Forecasting Survey, economists expect Q4 GDP growth to rise to 4.81%, more than double the third quarter advanced estimate released by the Bureau of Economic Analysis on Thursday, October 28th. Projections were made prior to Thursday’s advanced estimates, so it will be noteworthy where the panel lands during the next slate of projections given the Q3 shortfall.
Consumer Price Index (CPI) projections ticked up to an average forecast of 5.25% for December 2021, up from the July estimate of 4.11%. Inflation projections are far ahead of where economists forecasted earlier in the year, with the average December 2021 projection rising from 2.14% in January. Respondents expect inflation to decline throughout 2022, falling to 3.43% in June 2022 and to 2.64% in December 2022.
With the Federal Reserve signaling in recent meetings their appetite to raise interest rates if economic growth holds up, economists see a maintaining of the current 0.125% policy rate through the end of this year before an increase to 0.146% in June 2022. The Average forecast for December 2022 was raised to 0.34%, up from an average of 0.28% during the July survey.
3. APARTMENT SECTOR UPDATE
According to Real Capital Analytics, Apartment cap rates are averaging 4.7% through Q3 2021 — down 8 bps quarter-over-quarter and down by 39 bps from this time last year.
Of the three subsectors that RCA tracks, Garden Apartments observed the most cap rate compression over the past year, declining by 36 basis points (bps) to settle at an average cap rate of 4.8%. Mid/Highrise Apartments follow next, posting annual cap rate declines of 20 bps. Meanwhile, Student Housing cap rates rose by 23 bps year-over-year through Q3 2021.
Apartment transaction volumes have surged over the past two quarters. Real Capital Analytics tracked $78.7B of Apartment sector sales in Q3 2021 alone— the largest quarterly observation on record. The Q3 total is up by 31% quarter-over-quarter and 192% year-over-year.
Asset price growth is also enjoying a bull-run. According to RCA, apartment unit valuations through Q3 2021 are up 5.1% from the previous quarter and 15.2% from one year ago.
4. OFFICE SECTOR UPDATE
According to Real Capital Analytics, Office sector cap rates are continuing to sink to new all-time lows, reaching 6.3% in Q3 2021—down 8 bps quarter-over-quarter and 22 bps year-over-year.
Suburban Office assets notched the most annual cap rate compression over the year ending Q3 2021, totaling 29 bps. Medical Office properties follow next, with cap rates falling 23 bps year-over-year. Single Tenant assets and Central Business District located properties hold up the rear, posting cap rate declines of 9 bps and 6 bps, respectively.
Office sector transaction volumes are recovering through Q3 2021. Real Capital Analytics tracked $34.8B of Office sector sales in Q3 2021, a 24% improvement from Q2 and 137% from the same time last year.
Asset price growth is proving encouragingly robust through Q3 2021. According to RCA, Office sector valuations measured on a per square foot basis are up 7.1% quarter-over-quarter and 13.2% year-over-year.
5. RETAIL SECTOR UPDATE
According to Real Capital Analytics, Retail sector cap rates have continued to edge down, albeit more slowly than the other major CRE sectors. Through Q3 2021, Retail sector cap rates stand at 6.4%—down a singular basis point from Q2 and down by 11 bps year-over-year.
Drug Store and Single Tenant Retail assets have posted the largest annual cap rate declines through Q3 2021, falling by 33 bps and 36 bps, respectively. On the other side of the spectrum are Urban Store Fronts and Mall assets, which have posted cap rate increases of 17 bps and 28 bps, respectively.
Retail sector transaction volumes reached the highest quarterly total since the end of 2019. Real Capital Analytics tracked $17.4B of Retail sector sales in Q3 2021, a 14% improvement from Q2 and 127% from the same time last year. Moreover, compared to the total set through the first three quarters of 2019, the 2021 total is down by just 7.5%.
Asset prices, on average, are reaching new all-time highs in the Retail sector. According to RCA, Retail sector valuations measured on a per square foot basis are up 6.4% quarter-over-quarter and 13.2% year-over-year.
6. INDUSTRIAL SECTOR UPDATE
According to Real Capital Analytics, Industrial sector cap rates held effectively flat in Q3 2021, declining by just one basis point to remain at 5.6%. Measured year-over-year, Industrial sector cap rates are down by 29 bps through Q3 2021.
Single Tenant and Warehouse Industrial assets have posted the largest annual cap rate declines through Q3 2021, falling by 16 bps and 41 bps, respectively. On the other side of the spectrum is Flex Industrial space, which posted an annual cap rate increase of 9 bps.
Industrial sector transaction volumes rose for the second consecutive quarter, according to Real Capital Analytics, rising to $39.5B in Q3. The quarterly total is up 21% quarter-over-quarter and 130% year-over-year. Compared to the total set through the first three quarters of 2019 and 2020, the 2021 total up by 18% and 48%, respectively.
Unsurprisingly, Industrial sector asset prices are rising with momentum to new all-time highs. According to RCA, Industrial sector valuations measured on a per square foot basis are up 6.5% quarter-over-quarter and 17.1% year-over-year.
7. MORTGAGE RATES
Mortgage rates climbed to their highest mark since April 1st as the 30-year average reached 3.14% during the week ending on October 28th,2021. according to the latest data from Freddie Mac. After climbing in the Spring, rates had fallen to a range of 2.8-3.0% throughout the Summer before climbing above 3.0% and staying there since the beginning of October.
Rates have increased alongside a recent uptick in the 10-year Treasury yield, which reached a seven-month high during the week of Monday, October 18th. Both increases come amid the backdrop of the Federal Reserve signaling that they will scale back bond purchases and potentially raise short-term interest rates in the near term.
Home sales have continued to chug along during the climb, with prices reaching new all-time highs, however, an increase in home listings may help to relieve some of the inflationary pressures.
8. OFFICE TENANTS IN THE DRIVER SEAT
A new report out by Trepp helps detail the newfound leverage of Office market tenants, with roughly $36 billion in loans that are securitized against Office assets expected to mature between now and 2024. According to the report, $5.4 billion of these loans have at least 25% of their tenant leases expiring in the next 12 months, highlighting the urgency for properties managers to fill the imminent vacancies.
An August survey of CRE sentiment by Trepp found that 90% of respondents expect effective rents and occupancy to be below pre-pandemic levels over the next six months. 44% expect occupancy to be “well-below” pre-pandemic levels during this time.
New issuance has been re-concentrated in urban areas, indicative by urban markets’ surpassing their 2019 totals on a year-to-date basis. Suburban areas, on the other hand, have been hampered by the effects of the pandemic, as large companies have increased investment in areas where COVID shutdowns have discounted local real estate, while smaller tenant demand has decreased marginally due to work-from-home flexibility.
Within the next year, roughly $1.9 billion in urban office property loans will see at least 25% of their leases expire, with $874 million in suburban office loans also at exposure, $192 million in medical office loans, and $36 million in flex/R&D loans
9. INFLATION
The Consumer Price Index (CPI) recorded an average price increase of 0.4% in October from the previous month and 5.4% year-over-year, according to the latest release by the Bureau of Labor Statistics.
Food items and shelter contributed more than half of the seasonally adjusted increase in the index during the month, each climbing by 0.9% and 0.4%, respectively. Notably, food consumed at home rose 1.2% over the month compared to just a half a percentage point increase in the price of food consumed at establishments.
Energy costs continue to drive up broader inflation, up 1.3% on the month driven largely by the increase in fuel oil pricing. Energy price increases have fallen from their March peak of 5.0% month-over-month but remain up by 24.8% on the year.
The All Items Less Food and Energy component of the CPI rose by 0.2% in October and 4% year-over-year, led by a rise in new vehicle pricing and shelter costs. Used vehicles and transportation services, which have seen steady price increases throughout much of 2021, have now seen prices fall for a consecutive two and three months, respectively.
10. RETAIL SALES
U.S. food and retail sales rose 0.7% in September to a seasonally adjusted $625.4 billion, an increase of 13.9% from September 2020. Total sales for Q3 2021 are up 14.9% from Q3 2020.
Sales at gasoline stations led the largest year-over-year uptick, with transactions climbing by 38.2% from September 2020. Increased economic activity combined with rising gasoline prices has necessitated more trips to the pump for many consumers.
The uptick signals that consumers are shrugging off the hesitancy brought on by the delta variant surge and have continued to increase their activity. However, the expected indication of a decrease in personal consumption expenditures in the upcoming October 29th update could signal a reduction in retail sales ahead
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