By Brian Patton, CCIM, Capital Realty Advisors LLC
The bad news of the residential market over the last few months begs the question of what will happen to the commercial real estate market this year. In order to gauge investors’ expectations for 2008 in this market segment, a group of leading research companies recently surveyed more than 1,000 developers and investors. The survey group included 92 institutional investors with an average of 19 years experience and an average real estate portfolio of $36.6 million.
Among the findings is that the majority of the respondents, 57 percent, believe that the economy will stay the same or improve over 2007. When compared to past surveys, it’s obvious that respondents are less optimistic than in years past, but 16 percent are of the opinion that it will improve this year.
Investors are most optimistic about apartments and mixed-use projects. Nearly two-thirds of those surveyed expect to see an increase in rents for one or more property types and especially look to apartments as a segment with good promise for rental increases. It appears that most of the interest in the apartment sector is because of the mortgage crisis and the obvious negative effect on potential homebuyers being able to move from a tenancy situation.
In addition to strong investment fundamentals, existing commercial real estate is well supported by the increased costs of construction and barriers to entry from the ever-growing, difficult governmental approvals for most projects. Lengthy governmental approvals continue to add costly development requirements and extended interest carry costs. While these two aspects are negative for new construction, they tend to have a positive stabilizing impact on existing commercial project values.
What happens to capitalization rates in the upcoming year may be harder to foresee. Most respondents believe that cap rates will increase, although slightly. If interest rates continue to adjust downward, it makes sense that cap rates will have room to adjust downward as well. However, coming off the heels of several years of abnormally low cap rates and talks of recession from some economist, it appears that an uptick in cap rates would be a healthy step for investments long term. Although an upward cap rate trend would translate in reduced values, the investment return to purchasers would be beneficial.
Additional upward pressure on the commercial market will come from foreign investors. The falling dollar has created buying opportunities in the U.S. for foreign investors who have traditionally been savvy commercial investors. And, more buyers entering the market place translates into stabilized or higher sales prices.
So, it is from these fundamentals that developers and investors remain bullish about commercial real estate. And it is our belief that commercial real estate will weather the storm that has negatively affected the residential markets.
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Brian Patton, CCIM is a broker, author, and lecturer on commercial real estate issues. His firm, Capital Realty Advisors, LLC is located in Alpharetta, Georgia, and focuses on commercial real estate brokerage and development consulting.