With occupancies, rental rates and volumes of new construction on the rise, the Fort Worth retail market continues to draw a great number of investors and available debt lenders to the area in search of deals. Stabilized strip centers in high-traffic areas are in high demand, often trading at first-year returns in the high-6 percent to low-7 percent range.
The Dallas-Fort Worth (DFW) metroplex’s thriving economy and growing population has prompted greater retail spending, which, in combination with the shifting retail landscape, is generating strong demand for space.
During the first quarter, area employers added 24,300 positions. Many of these jobs were created at businesses that are situated within master-planned, mixed-use developments that combine office, retail and rental units, which has helped foster greater retail spending. As of the first quarter, average retail spending per household in Fort Worth reached $4,439 per month — 17.3 percent higher than the U.S. average. Looking forward, it seems likely that these trends will continue as the DFW population is projected to expand by 728,000 people over the next five years. This should help sustain healthy demand and positive momentum for retail real estate.
Kyle Palmer, Marcus & Millichap
Along with the positive economic outlook, the reconfiguration and diversification of tenant mixes in area shopping centers has bolstered traffic and invigorated tenant demand. Consequently, this year’s volume of deliveries of new retail properties should increase by 1.5 million to 4.8 million square feet.
During the first quarter, 470,000 square feet of new space hit the marketplace, with completions concentrated in the North Dallas and Central Fort Worth submarkets. Although construction volume is elevated compared to last year, supply additions continue to lag behind the pace of net absorption and will further impact the market’s vacancy rate, which has tumbled 90 basis points year-over-year to 4.7 percent. By comparison, Dallas’ vacancy rate of 5.2 percent represents a drop of 100 basis points from one year ago.
While vacancy has constricted throughout much of DFW, rent growth has been muted over the last two years. In the aforementioned yearlong period, average asking rents ticked up 2.1 percent. It is also worth noting that the average retail rent in the metroplex is the lowest among the four major Texas MSAs, which suggests upside opportunities still exist.
This confluence of positive property performance metrics is helping to sustain a healthy level of investment and financing activity. A bright economic outlook and healthy property operations will continue to draw investors and lenders to metroplex retail assets. Texas buyers are dominating sales, but are facing increasing competition from West Coast players in particular.
Monetary Policy in Transition
The yield on the 10-year U.S. Treasury bond remained in the low- to mid-2 percent range as of August 2017. Despite the devastating floods in Southeast Texas and Florida, markets seem to be at peace, thanks to data underscoring the resilience of the American and Chinese economies and dissipating concerns over North Korea.
Roger Burke, Marcus & Millichap
A primary point from last month’s annual Federal Reserve meeting that may affect interest rates is Congress’ failure to address the issue of raising the debt ceiling, which currently stands at $19.9 trillion. This could affect U.S. credit ratings and potentially have a negative impact on interest rates and capital markets.
However, the 10-year Treasury yields currently sits at 2.12 percent and is trading within the low end of its 2017 range. This has allowed lenders to provide extremely advantageous rates to borrowers. The widely held perception is that policymakers will forgo additional rate hikes this year and will only raise rates twice (a total of 50 basis points) in 2018.
Financing Availability
Banks have continued to dominate originations in the Fort Worth market throughout 2017, while credit unions have significantly increased their activity in the market. Life companies and other portfolio lenders are getting creative by offering non-recourse and interest-only periods. New acquisition and refinancing loans remain widely available, but are becoming more selective. Lenders are shying away from big box centers and pursuing more opportunities in service and strip centers.
Contingent on location, term, borrower credit and tenant(s) quality, loan-to-values (LTVs) range between 60 to 75 percent with interest rates between 4.25 to 5 percent and amortization schedules averaging 25 years. Thirty-year schedules can be secured through agency lending programs.
A prevailing underwriting trend involves increasing reserve costs within new loans, which frequently hamper cash flows available for debt service coverage ratios (DSCRs) and loan proceeds. New construction lending is also tightening, with LTVs ranging from 55 to 65 percent and interest rates between 5.5 and 6.5 percent. However, more attractive new construction financing is available for experienced developers with stronger corporate credit, single-tenant deals.
Over the past 18 months, we’ve seen many regional and community banks in Tarrant County sharpen their pencils and become more restrictive in their underwriting standards. They’re being proactive by diligently evaluating new acquisition loans and placing higher limits on the DSCR they’re willing to lend against.
In the past, the minimum benchmark DSCR had been 1.25 percent, but today we’re seeing that increase to 1.35 percent. This represents an effort to stringently mitigate the probability of placing bad debt on over-evaluated income-producing investment properties, which is the primary concern for banks during periods of substantial growth and appreciation in markets similar to DFW, and rightly so.
Although lenders are tightening their financing standards, capital is still readily available for retail assets in DFW. That said, the Federal Reserve’s work toward the normalization of monetary policy after years of quantitative easing is likely to push up the cost of capital. Many real estate investors expect a modest increase in interest rates over the short term, a transition in the financing environment that could weigh on transaction activity as investors evaluate their yield options.
— By Kyle Palmer, regional manager, Marcus & Millichap, and Roger Burke, associate director, Marcus & Millichap. This article first appeared in the October 2017 issue of Texas Real Estate Business magazine.