Goodbye 2018, hello 2019! As the new year approaches, Bishop talked with several industry execs, researchers and economists to uncover the significant trends expected to dominate the commercial real estate industry in the upcoming year. By the increase of opportunity zones to a slowdown in industrial absorption, these are 18 tendencies experts forecast for 2019.
As investors await finalized advice from the Department of the Treasury and the IRS concerning the Opportunity Zone program, the search is on for assets and investment opportunities in those designated areas that pose the strongest upside potential. Investors are lining up to pour billions to Opportunity Zone Funds, with a report from Real Capital Analytics saying there is over $6 trillion in unrealized capital gains eligible to be set up into opportunity zones.
Though the program was made through the passing of the Tax Cuts and Jobs Act annually to drive economic development in underserved communities in exchange for a hefty tax break, study shows many of those census tracts classified as opportunity zones have already attracted a considerable amount of investment prior to the launch of the new national plan. Critics of the program stress it will accelerate investment in areas already experiencing a surge in growth action, leading to a convergence of investment into burgeoning neighborhoods already in high demand, and a lack of investment in differently blighted communities.
2. Industrial Boom To Keep Thanks To High Demand From E-Commerce Players, Though A Few Headwinds May Surface
Industrial real estate demand soared to new heights this past season, and CBRE Head of Industrial Research David Egan expects more of the same in 2019.
“I think that the market has outperformed this year, at least from user action. There’s been an overall expectation for a number of years that this can’t last and it turns out that has not been true. We’ve got a huge quantity of demand on the market for logistics properties of all kinds; of course the Class-A big-bulk warehouses are exactly what get most of the attention, but the need is very broad-based and extending all of the way down to secondary and tertiary markets,” he said. “My anticipation in 2019 is that we should see less or more of the exact same dynamic.”
Web absorption resulting from e-commerce growth is expected to moderate between 75M SF and 94M SFexactly the same as this year, according to CBRE’s 2019 Outlook report, and a lack of new supply has driven vacancy levels down to 4.3%, a historic low.
“According to the demand that we’re seeing from the e-commerce industry — and from conventional brick-and-mortar retailers that are entering or expanding in the internet space — we can fully anticipate that e-commerce will continue to drive the marketplace annually,” Bridge Development Partners President Anthony Pricco explained. “This is especially true for infill sites proximate to the significant population centres. While the rising costs of construction and land could be viewed as emerging market headwinds, the upside of industrial growth is still exceptionally powerful, as rents have been appreciating at a much faster rate.”
Egan advised Bisnow he would not be surprised if internet absorption tapered off in 2019 due to new supply not keeping pace with strong demand amounts.
“You can just absorb what’s available,” he said. “While we hope to see supply-demand relatively in check, those growth metrics will continue to be positive.”
3. Federal Reserve To Slowly Boost Interest Rates Due To The Power Of The Economy
With robust jobs growth continuing to grow at a healthy clip and the unemployment rate stable at 3.7%, a 50-year low, Fed officials hint that they will likely continue their path of activity in 2019 to gradually boost short-term interest rates to temper inflation and keep a stable economy.
“Inflation exists above the Fed’s target of 2% to 2.5%, with more job openings than jobless and more homebuyers than new housing inventory. The Fed sees inflation ahead first and foremost and will continue a hike-pause-hike-pause routine in 2019 as long as GDP remains above 2% and unemployment below 5%,” CCIM Institute Chief Economist K.C. Conway said.
The Fed boosted rates three times annually to a range of 2 percent to 2.25 percent, and many expect central bankers to bulge rates again in December. Big Wall Street banks polled by Reuters expect central bankers to boost rates another three times in 2019.
“Although the latest Fed guidance has seemed less authoritative on its future path, the current market and most analysts expect another hike this month and two to four next year, as both inflation and wage growth surpass their goals,” Colliers International U.S. Chief Economist Andrew Nelson said. “This will ultimately translate into declines in consumer and business borrowing and curb spending and investing.”
4. Online Retailers Will Continue To Open Brick-And-Mortar Stores, Further Validating That Physical Retail Is Far From Dead
With the retail industry stabilizing in 2018, CBRE Head Of Global Retail Research Melina Cordero expects retailers to begin reinvesting in their physical footprints to achieve the ideal omnichannel shopping experience for consumers. Additionally, digitally native (or even e-commerce just ) retailers will increasingly shift to open physiological stores to grow their business and keep more clients, Cordero said.
“In terms of retail and property, I believe that the retailers have finally sort of learned what to do. There’s a lot of investment, changes and closures that had to occur to adapt to omnichannel. More than 2018 a good deal of those investments finally started to pay off.
“What we believe is going to happen over 2019 is a true return to the store. Retailers are finally beginning to understand the value of the property — they can not just close a store and rely on internet, they really need the store for profit margins, customer care, client acquisition, for many reasons. I believe we’re going to find a great deal of reinvesting from the store and lots of reinvesting in strategies to try to get folks into the store,” Cordero said.
5. Industry To Continue Reading The Tea Leaves To Predict The Next Downturn
Everyone is on the lookout for signs of the next recession, since the economy nears its 10th year of expansion — its longest period of growth .
“In the history of U.S. business cycles, downturns have typically occurred within one or two years after the economy has reached full employment,” JPMorgan Chase Commercial Banking Head Economist Jim Glassman explained. “A careful examination of this historic regularity suggests, however, this pattern has been the consequence of two imbalances — a building inflation problem that needs that the Fed to adopt a restrictive policy position, or unprecedented fiscal imbalances.
“In that respect, there are no obvious imbalances that have the potential to trigger a downturn, so the current expansion is likely to settle to a protracted period of balanced, noninflationary growth”
Although U.S. economic growth and job gains were strong in 2018, some analysts and economists predict the economy will likely slow in 2019 due to continued short-term rate of interest lumps by the Federal Reserve and waning financial stimulus from federal tax reductions.
“The inevitable disruption is probably the right risk strategy mode to be in for 2019. Real estate is not immune from business cycles, economic recessions or disruptive black swan events — such as a trade war, money crisis or cyberterrorism,” Conway said.
6. Investor Demand For U.S. Assets To Maintain Transaction Volume Powerful
“Though property markets peaked with this cycle in 2015, leasing and sales trade activity remain robust and pricing firm,” Nelson informed Bishop. “Transaction volume through Q3 2018 [has been ] 11% over its level for the similar period last year and is approaching the total closed in 2015 — the peak sales year for this cycle.
“While all four core businesses have contributed in this year’s profits, office and apartment — perennial investor favorites — have posted the highest sales totals and also the strongest price appreciation to date. However, both [will] likely slow sharply in the following two decades, together with price appreciation and lease growth, since the economy slows or even turns negative”
7. Industrywide PropTech Adoption To Accelerate
Commercial real estate professionals — from owners and operators to brokers and architects — may no longer deny that the effect technology is having on the business. More real estate companies are embracing the most recent innovations to streamline perform tasks and make a more paperless, transparent approach to sourcing deals, managing assets, assessing data and closing trades.
Mihir Shah, co-CEO of JLL Spark — JLL’s PropTech division with a $100M global fund dedicated to investing in real estate tech companies — told Bishop that PropTech companies are now increasingly valuable as their products have helped real estate companies further their own initiatives.
“As a part of this endeavor, we are seeing companies that typically went through long RFPs showing interest in piloting new products to see which ones are workable. This helps them establish [return on investment] quicker and helps the winners grow faster,” Shah said. “This willingness to try new things will help PropTech adoption in 2019 and beyond.”
8. Investment In Value-Add Assets To Help Assuage U.S. Workforce Housing Availability, Affordability Concerns
Demand for available and affordable workforce housing options will remain a subject of interest in the multifamily sector, as costly land and development costs make it more hard to build affordable housing from the bottom up. This is particularly a pain point in urban metros, JPMorgan Chase Head of Commercial Real Estate Al Brooks told Bisnow.
“The continuing job growth we’ve been experiencing in the U.S. is having a massive effect on labour housing affordability in major cities. This influx of talent is still fueled by the need to be in close proximity to work, the ease of mass transit alternatives, as well as the allure of being in the middle of the action in major metropolitan areas,” Brooks said.
CBRE Americas Head of Multifamily Research Jeanette Rice said investment in value-add multifamily assets will help assuage these concerns.
“Workforce housing will even remain appealing in 2019 because of demand outpacing accessible supply, thereby maintaining vacancy rates low and leasing growth above the overall multifamily market.
“Investor interest will also remain very high in 2019. Interest is coming from all types of capital, such as institutional and foreign capital in addition to conventional sources like smaller buyers. The appetite for labor housing is very strong for the better property fundamentals and greater yields. Value-add investment will still dominate in 2019 and stay mostly profitable. Acquisitions of stabilized product will also be appealing for some investors, particularly those with longer-term hold horizons,” Rice explained.
9. Millennials To Continue Flocking To Hipsturbias And 18-Hour Suburban Cities
Research and data has dispelled the long-held myth that millennials are city-flocking suburbia haters. With aging millennials now hitting their early 30s, many are turning to the suburbs with their families. Over 2.6 million Americans relocated from the city to the suburbs in the previous two decades, according to the U.S. Census Bureau as reported by ULI. This has revived investor interest and confidence in pick non-gateway markets, ULI reports in its 2019 Trends survey. “Hipsturbias” or even”Urban-burbs” have been used to classify these suburban markets with greater walkability and accessibility to public transit that resemble urban metros.
A U.S. bank senior writer advised ULI the following:
“The first stage is millennials moving into the suburbs to get bigger, cheaper homes and access to colleges, so decent single-family home and multifamily housing will be critical. Retail follows rooftops, so retail development to satisfy the new occupants’ requirements will follow. Last, you may begin to see more emphasis on employment facilities as residents decide they want to work closer to where they reside.”
10. Investors To Favor Industrial, Multifamily And Retail Assets In The New Year
It comes as no surprise that industrial real estate assets are an anticipated favorite for investors in 2019, along with multifamily assets, based on ULI’s 2019 Emerging Trends report. Deep-pocketed investors like Blackstone Group continue to gobble up entire portfolios of industrial resources at a rapid pace this year, for example its purchase of industrial REIT Gramercy Property Trust for $7.6B, also a portfolio of last-mile logistics assets from Harvard University for nearly $1B plus also a portfolio of 41 warehouses from FRP Holdings Inc. for $359M.
More interesting is the fact that retail is expected to attract attention from investors in 2019, especially those resources ripe for redevelopment and upgrades.
“Many shopping centre properties are just not likely to return as successful retail resources. However, while some are reduced in cost to mere property worth, many are well below replacement cost and also have great locations for alternative applications,” ULI reports. “If a website is sufficiently big, mixed-use is a great option for close-in suburbs looking to exploit maturing millennials’ desire to input their next life-cycle phase. There also is a chance to turn the tables on the e-commerce fashion that fostered the obsolescence by redevelopment into supply facilities.”
11. Investors To Continue Flocking To Secondary, Tertiary Markets For Yield
Commercial property investors on the hunt for solid risk-adjusted returns continue to skip entry markets to bet on assets in burgeoning markets that are secondary, as well as the trend is likely to last in 2019.
“Because of the high rates and restricted opportunities in primary U.S. metros, investors are continuing to concentrate more on secondary markets, which can be appreciating double-digit increase in investment activity and also substantially more powerful price increases than at the primary (largely coastal) subway markets,” Colliers’ Nelson said. “But, those tendencies will probably reverse if/when we see the economic downturn, and investors find the security of bigger, more liquid markets.”
This behavior is typical in a late-stage cycle such as this, CBRE Chairman of Americas Research Spencer Levy stated.
“The downside of the coin is it’s standard of late-cycle investment activity that you find a change from primary to secondary in search of returns. What’s new is we’ve not seen that a compression of yields that would be typical in late-market activity,” he explained. “What happens is cap rates in primaries and secondaries converge; we have not seen that in office and retail, but we’ve seen that in multifamily. The issue is, is that this trend durable during a recession which will occur in another couple of years?”
12. Construction Industry To Continue Grappling With High Costs, Labor Shortage
Rising construction costs were the No. 1 property and development concern for respondents that participated in ULI’s Emerging Trends in Real Estate 2019 surveys. On a scale of one to five, five of the greatest importance, construction prices ranked 4.59, together with land costs and housing prices and availability following close behind at 4.14 and 4, ULI reports.
“Growing construction costs could possibly be the most undertold narrative of 2018 that should grow to be a substance narrative in 2019,” CCIM’s Conway stated. Conway identified a variety of factors exacerbating price and labour challenges in the construction business, such as a decrease in immigrant building laborers following the financial crisis, loony superstorms as a consequence of climate change that has resulted in massive rebuilding efforts across the country, and tariffs and the transaction war.
“Key materials like steel,… toilet fixtures from China, timber from Canada, etc., are affected. Pay attention to the quarterly revenue reports from building materials companies regarding the sort of input cost increases being experienced. Caterpillar, for example, reported solid earnings in Q3 2018, but a large rise in material inputs such as steel. The result is rising pressure on margins.
“This is the key takeaway regarding construction labour and material costs increases — margins are going to be squeezed, cost overruns incurred, and worth under pressure unless rents and [net operating income] can be increased to cover the rising costs of new construction,” Conway said.
13. U.S. Office Real Estate Markets To Remain Stable, Though Demand May Slow
CBRE said in its 2019 U.S. Outlook report which office net absorption is predicted to reach 37M SF in 2019, representing the business’s 10th consecutive year of positive absorption. Should the country continue to experience strong office-using job growth in the new year, it might cause strong absorption rates and renewed interest from shareholders.
“One portion of office property growth is the demand for more office space near amusement venues and other amenities. These office buildings are relying upon smaller, more flexible workspaces. Working spaces also are becoming more prevalent as professionals select other working methods,” Green informed Bishop.
Nevertheless, Colliers’ Nelson anticipates office demand will taper off in reaction to a downturn in job creation and strong supply levels.
“Demand for office space will moderate in response to slower job development, just as a significant volume of projects already under construction starts to enter the market,” Nelson stated. “So vacancy will trend upward and rent growth will ease as market conditions become more aggressive for landlords.”
14. Retail Bankruptcies To Slow, Retailer Earnings To Stabilize
“The real estate business has experienced significant change in recent decades, and the transformation is deep and will continue throughout 2019. The convergence of brick-and-mortar and online retail will continue to create major seismic changes in the industry,” TD Bank Head of Commercial Real Estate Gregg Gerken told Bishop.
Though a tide of retailers filed for bankruptcy and shuttered shops this season — including Sears, Mattress Firm, Nine West and Claire’s — the situation surrounding most store closures next year ought to be enormously different, CBRE’s Cordero said.
“I feel the overall industry opinion is that 2017 was likely the summit [for retail closures]. I believe there’ll continue to become closers in 2019 — it’s difficult to say whether we will have less or more — but I’d say a lot of the closures that we will find in 2019 will be more about that which we call portfolio rationalization or optimization than they are about retailers that are failing.
“Retailers in many cases do need to close stores to reorient their portfolios — therefore I do anticipate closures at 2019, but I do not actually [connect ] a great deal of those closures as dying or failing retail, it’s more of morphing and adapting retail,” Cordero said.
15. Multistory Warehouse Development In The U.S. To Accelerate
Conditions have ripened for multistory warehouse development from the U.S., and this trend will continue into 2019. Facilities are underway or have already delivered in Seattle, San Francisco, New York, Miami and Chicago. Even though multistory warehouses are nothing new in Europe and Asia, the U.S. is in the beginning phases of developing these kinds of facilities now that building prices are not as cheap and there is less available land than in earlier times CBRE’s Levy said. Unprecedented demand for logistics and warehouse area today has changed this dynamic.
“The rents that are being attained in such multistory industrial [centers ] may be just two or three times what you are seeing in conventional industrial. We think this specific tendency is simply in the beginning in the United States,” Levy explained.
Although the bumps in lease are substantial, CBRE Head of Industrial Research David Egan said these multistory facilities also can present operational challenges for consumers.
“The users are going to have to change how they function in such buildings to make it work effectively,” he explained. “The operational problems aren’t small — to change the way they move stock in and out of these buildings is not a small little tweak”
16. Grocery Chains To Move Additional Online Expand Their Online Offerings With The Help Of Tech
Up to now, delivering fresh markets to consumers’ doors has been a rather nascent concept — and it is no easy task. Grocers already combat low profit margins due to increasingly declining food costs and fresh low-cost competitions like Aldi entering the marketplace. These challenges, coupled with costly online delivery costs, has maintained online grocery delivery in its own infancy. But CBRE’s Cordero sees that tendency shifting in 2019.
“Grocery is probably, one of all the retail categories, among the cheapest for online penetration. We believe because of a mixture of technological progress, investment on the part of retailers and consumer demand, that we’re likely to find a pretty significant shift next year in grocery going online and retailers that offer more to customers in that domain,” she explained.
17. Economic Development Teams Round The Country Continue To Feel The Impact Of HQ2 Competition
“An open competition like the Amazon HQ2 hunt is an chance for communities to redefine their own legacy image and showcase what’s different about their market today versus 10, 20 or 30 decades ago. The 238 communities that competed to the Amazon HQ2 are decreasing economic development as a result,” CCIM’s Conway stated.
“Amazon is using the data to site select new fulfillment centers in places like Tucson, Arizona, and Birmingham, Alabama. Other significant transportation and e-commerce companies, such as Norfolk Southern Railroad, have utilized the information to make a relocation choice (in Norfolk Southern’s instance, to Atlanta, which was among the 20 finalist cities for Amazon HQ2). To put it differently, the Amazon HQ2 search was to economic growth precisely what the census is to demographics.”
18. U.S. Hotel Occupancy To Split Records In 2019
The hotel sector is expected to undergo a record-breaking year of occupancy levels in 2019, according to a forecast from CBRE Hotels America Research. Occupancy levels are predicted to spike to 66.2% next year, the 10th consecutive year of expansion. Commercial real estate trends growth will be driven by a 2.1% increase in demand to cancel incoming supply.
That strong demand may not be felt equally across markets, Quadrum Hospitality Group President Foiz Ahmed said.
“Although the hospitality industry keeps growing, the markets in which Quadrum is busy will remain relatively flat given their higher-than-national average occupancy rates. While ordinary daily rates are rising nationwide, the business will face some challenges as a result of rapid adoption of apps which offer discounted prices.”