REBusinessOnline

Lee & Associates Breaks Down Third-Quarter Economic Outlook by Sector

The-Crescent-Dallas

The Crescent in Uptown Dallas is a mixed-used property housing hotel, office and retail/restaurant space.

The calculus for which asset classes are likeliest to demonstrate strong growth continues to shift as the pandemic appears to be receding. Patterns in labor shortages, supply chain issues and material costs have managed to solidify through the third quarter of 2021.

Lee & Associates’ newly released Q3 2021 North America Market Report dissects third-quarter 2021 industrial, office, retail and multifamily findings, with a focus on where demand is moving and the challenges facing each asset class. Lee & Associates has made the full market report available at this
link (with further breakdowns of factors like vacancy rates, market rents, inventory square footage and cap rates by city).

Below is a bird’s-eye overview of four commercial real estate asset classes as general categories, broken down to frame each through the trends and complications they faced up to the fourth quarter, according to Lee & Associates’ research. 

Industrial: Q3 Posts More Record Demand

Pandemic-fueled consumer spending drove up third-quarter demand for warehouse and distribution facilities that eclipsed previous records. And despite a nationwide surge in new construction, some metros can barely accommodate the pace of tenant expansion. Additionally, year-over-year rent growth is at a record 6.7 percent for the industrial property sector as a whole and 7.9 percent for logistics facilities.

The national vacancy rate fell at the fastest pace ever in the third quarter, settling at a record low 4.6 percent. Net absorption in the third quarter totaled 157.9 million square feet, a 17.2 percent increase over second quarter’s record-setting net growth of 134.7 million square feet. Net absorption through the first three quarters of 2021 totaled 366.5 million square feet. The previous record was 278.7 million square feet set in 2016. It’s also notable that net absorption already has exceeded the record 342.9 million square feet of new deliveries expected this year.

It is a dramatic turnaround from 19 months ago when the lockdown put the brakes on an economy that since came roaring back with the help of government relief and vaccine distribution. The pandemic accelerated the growth of e-commerce to levels exceeding existing supply chain capacities. At the moment, new listings for quality space are attracting multiple offers in many major industrial markets. And in some prime industrial neighborhoods, any space with a loading dock and 18 feet of clear height excites user interest.

The strain caused by the surge in trade and consumption is showing up elsewhere in the supply chain. One of the biggest headaches is shipping from Asia to North America. The latest reports show it takes 80 days for goods to cross the Pacific and be unloaded, nearly twice the time required before the pandemic. In early October there were upward of 75 container ships awaiting berths at the ports of Los Angeles and Long Beach. Ten-day waits were common.

The snarls are causing giant retailers, including Costco, Walmart, Home Depot and Target Corp., to charter smaller 1,000-container capacity cargo ships that can be re-routed and slip into secondary ports such as Portland, Ore., Oakland, Calif. and others on the East Coast. Although twice as costly, the strategy guarantees that holiday merchandise is delivered on time.

Office: Positive Demand Returns

The nation’s office market posted positive net absorption in the third quarter. It was the first quarter of growth since the pandemic hit. The tenant expansion came despite spiking COVID Delta infections that began in early July, renewing employer caution over office re-opening plans.

Net absorption totaled 11,792,287 square feet in the third quarter. But over the previous 18 months negative absorption totaled 131 million square feet, which accounts for 1.6 percent of the 8.2-billion-square feet inventory. It also is equal to two years of growth in a strong pre-COVID economy, during which the five-year absorption average was 65.5 million square feet per year.

Construction starts since the lockdown are less than 15 million square feet. But over the last two years, 92 million square feet emerged from the construction pipeline. The new space represents 1.2 percent of total inventory.

Markets with the most supply underway were Austin, San Jose, San Francisco and Seattle. Nashville, Charlotte and Miami are among Sun Belt metros set to add significant space, much of which has not been pre-leased. This adds to concern in markets where sublease space is at record levels.

Trailing-year rent losses currently are greatest in tech markets San Francisco, Seattle, Austin and San Jose. Falling rent is also pronounced in New York City, Los Angeles, Chicago, Washington, D.C. and many California markets. Markets maintaining positive rent growth include Las Vegas, the Inland Empire, Memphis, Raleigh, Charlotte, San Antonio and virtually all Florida markets. In light of the long-term effects remote working could have on office demand and in view of the record volume of space vacated since the first quarter of last year, a rebound to pre-pandemic effective rent levels could take years to achieve.

As for tenant growth, there was a hint at mid-year that a reversal was in the offing as occupancy losses began to moderate while vaccine distribution ramped up. Net absorption improved from negative 54.4 million square feet in Q1, to negative 12.2 million square feet at the end of second-quarter 2021.

Retail Demand Stages a Comeback

Retail real estate is staging a notable comeback in 2021, bolstered by enormous government subsidies to consumers, who largely are getting vaccinated. While there was a sharp increase in e-commerce in 2020, this year has been brick-and-mortar’s turn. Merchants expanded their real estate footprints again in the third quarter by 28.6 million square feet. This follows 20.2 million square feet of positive net absorption in the second quarter and 4.5 million square feet in the first, and brings overall year-to-date growth to 53.3 million square feet, 52 percent more than for all of 2019.

In addition to the injection of more than a trillion dollars into consumers’ wallets, reopening of the economy and easing restrictions on operations also helped slow the pace of store closure announcements and bankruptcies, which are on pace to impact the least amount of space since 2016.

Many retailers are expanding into new locations with grocery, discount, home décor and beauty sectors as the most active. At the same time, the average-sized footprint continues to lessen as several merchants, such as Target, Macy’s and Burlington, are focusing on operating leaner, smaller formatted stores. Retailers’ expansion plans continue to focus on faster-growing metros in the South and West, where absorption and leasing activity is greatest.

It’s no surprise that the demand is driving up lease rates. The higher population growth markets such as Nashville, Atlanta, Tampa, Las Vegas, Charlotte, Phoenix and Orlando have seen rents increase by 2.5 percent or more in the past year while rents are abating in markets such as New York, Boston, Northern New Jersey and Los Angeles.

Demand for space in neighborhood centers and stand-alone, single-tenant properties has accounted for more than 90 percent of the net absorption total this year. Tenants in the general retail space, the largest retail category with a 6.2-billion-square feet base, expanded by 13.9 million square feet in the third quarter, bringing the year-to-date total to 32.3 million square feet. Neighborhood retail with a 2.97-billion-square feet inventory reported 10.9 million square feet in third-quarter net absorption, bringing the total growth for the year to 17.3 million square feet.

Multifamily: Growth Pressures Hit Renters

Apartment demand is in overdrive and rents are soaring. Third-quarter absorption totaled 203,994 units, bringing the year-to-date total to 621,680. That’s a 67 percent increase over last year’s absorption record of 372,904 apartments. The vacancy rate for 17.8 million apartments is at an all-time low 4.6 percent.

At the end of the third quarter, monthly rents were up an average 10.4 percent this year to $1,524 per unit or $1.71 per square feet. Rents were highest in San Francisco, averaging $2,964, up 10 percent this year. Of the top 80 U.S. metros, 17 posted annual growth rates over 15 percent. Austin, Jacksonville, Las Vegas, Orlando, Phoenix, Raleigh and Tampa averaged asking rent hikes of more than 20 percent.

Third-quarter net absorption totaled 142,274 units out of 4.8 million Class A apartments and 193,458 apartments out of 7.2 million Class B units. Dallas/Ft. Worth was No. 1 in net absorption with 46,145 units in the last 12 months.

With demand and rent growth indicators surging and values back on the rise, investors have regained confidence in the sector and sales volume has returned to more normal levels in the last few quarters. Investors are increasingly drawn to the Sunbelt markets. Third-quarter sales volume in metros like Dallas/Ft. Worth, Atlanta and Phoenix was well ahead of trading levels early this year.

Transaction activity in Los Angeles, Washington, D.C., the Bay Area and New York City remained tepid. But that’s likely to change soon as each of those cities and Chicago is showing strong net absorption.

Through the third quarter, there were 15,107 deals this year with an average unit price of $181,384, up 13 percent from the end of 2020. The average cap rate was 5.7 percent, down from 6 percent at the end of 2020. The average sale price of Class A assets in third-quarter 2021 was $259,642 per unit, a 12.7 percent increase since 2020. Class B apartment prices in the third quarter averaged $150,389 each, a 7 percent gain since last year.

Developers are facing tough headwinds with elevated material and labor costs. At the same time there is competition for materials and labor with a resurgent for-sale homebuilding sector.

Markets in Florida and perpetual leaders in domestic net migration like Austin, Nashville, Salt Lake City and Raleigh top the list in net absorption as a percent of inventory.

— Lee & Associates Research Department. Lee & Associates is a content partner of REBusinessOnline. To read all of Lee & Associates’ Q3 2021 North America Market Report, click here.

Content Partners
‣ Bohler
‣ Lee & Associates
‣ Lument
‣ NAI Global
‣ Walker & Dunlop

Subscribe to the newsletter
Conferences


Webinars on Demand


Read the Digital Editions

Northeast Multifamily & Affordable Housing Business

Midwest Multifamily & Affordable Housing Business

Western Multifamily & Affordable Housing Business

Texas Multifamily & Affordable Housing Business

Southeast Multifamily & Affordable Housing Business

Heartland Real Estate Business

Northeast Real Estate Business

Southeast Real Estate Business

Texas Real Estate Business

Western Real Estate Business

Shopping Center Business

California Centers

Student Housing Business

Seniors Housing Business

Featured Properties