Goodbye 2018, hello 2019! As the new year approaches, Bishop spoke with several industry execs, researchers and economists to discover the major trends expected to dominate the commercial real estate sector in the upcoming year. From the rise of opportunity zones to a downturn in industrial absorption, these are 18 trends experts predict for 2019.
As investors anticipate 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 these designated areas that present the strongest upside potential. Investors are lining up to pour billions into Opportunity Zone Funds, with a report by Real Capital Analytics stating there is over $6 trillion in unrealized capital gains eligible to be set up into opportunity zones.
While the program was made via the passing of the Tax Cuts and Jobs Act annually to induce economic growth in underserved communities in exchange for a hefty tax break, research shows many of the census tracts classified as chance zones have already brought a substantial amount of investment ahead of the initiation of the new national plan. Critics of commercial real estate analysis program worry it will accelerate investment in areas already experiencing a surge in development activity, leading to a convergence of investment to 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 year, and CBRE Head of Industrial Research David Egan expects more of the same in 2019.
“I believe the market has outperformed this year, at least from consumer action. There has been a general expectation for a number of years that this can not continue, and it ends up that has not been accurate. We’ve got a huge quantity of demand on the market for logistics properties of all types; obviously the Class-A big-bulk warehouses are what get the majority of the attention, but the demand 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 more or less of the exact same dynamic.”
Web absorption resulting from e-commerce growth is expected to moderate between 75M SF and 94M SF, 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 percent, a historic low.
“Based on the demand that we’re seeing in the e-commerce industry — as well as from traditional brick-and-mortar retailers that are entering or expanding into the online space — we could fully anticipate that e-commerce will continue to push the marketplace annually,” Bridge Development Partners President Anthony Pricco explained. “This is especially true for infill sites proximate to the major population centers. While the rising costs of land and construction could be viewed as emerging economy headwinds, the upside of industrial development is still exceptionally powerful, as rents have been appreciating at a much faster pace.”
Egan advised Bisnow that he would not be surprised if internet absorption tapered off in 2019 because of new distribution not keeping pace with robust demand amounts.
“You can only absorb what is available,” he explained. “While we expect to see supply-demand relatively in check, these expansion metrics will continue to be positive.”
3. Federal Reserve To Slowly Boost Interest Rates as a Result of Strength Of The Economy
With robust jobs growth continuing to increase at a healthy clip and the unemployment rate steady at 3.7%, a 50-year reduced, Fed officials hint that they will likely continue their path of action in 2019 to gradually boost short-term interest levels to temper inflation and keep a stable market.
“Inflation exists above the Fed’s target of 2 percent to 2.5%, with more job openings than unemployed and more homebuyers than new home inventory. The Fed sees inflation forward and foremost and will last on a hike-pause-hike-pause routine in 2019 provided that GDP stays above 2 percent and unemployment under 5 percent,” CCIM Institute Chief Economist K.C. Conway stated.
The Fed boosted rates three times annually to a range of 2% to 2.25 percent, and many anticipate central bankers to bump 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 course, the current market and most analysts expect another increase this month and two to four months, as both inflation and wage growth exceed their targets,” Colliers International U.S. Chief Economist Andrew Nelson stated. “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 e-commerce just ) retailers will increasingly shift to open physiological shops to grow their company and retain more customers, Cordero said.
“In relation to retail and real estate, I think that the retailers have sort of learned what to do. There’s a lot of investment, changes and closures that needed to occur to adapt to omnichannel. Over 2018 a good deal of those investments eventually started to pay off.
“What we believe is going to occur over 2019 is a true return to the shop. Retailers are finally starting to understand the value of the property — they can not just close a shop and rely on internet, they really require the shop for profit margins, consumer attention, client acquisition, for lots of reasons. I believe we are going to see a great deal of reinvesting from the store and lots of reinvesting in strategies to try and get folks into the shop,” 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 ever.
“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 indicates, however, this pattern has been the consequence of 2 imbalances — a building inflation problem which requires the Fed to adopt a more restrictive policy posture, or unprecedented financial imbalances.
“In that respect, there are not any obvious imbalances that have the potential to trigger a downturn, so the current expansion is very likely to settle to a protracted period of balanced, noninflationary growth.”
Although U.S. economic growth and job gains were powerful in 2018, some analysts and economists predict the market will likely slow in 2019 because of continued short-term interest rate lumps by the Federal Reserve and waning financial stimulus from federal tax reductions.
“The inevitable disruption is most likely the right risk strategy mode to maintain 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 Strong
“Though property markets peaked with this cycle in 2015, leasing and sales trade activity remains robust and pricing company,” Nelson told Bisnow. “Transaction quantity through Q3 2018 [was] 11% above its level for the similar period this past year and is approaching the total closed in 2015 — the peak sales year for this cycle.
“While all of four core businesses have contributed in this year’s gains, office and apartment — perennial investor favorites — have submitted the highest sales totals and also the strongest price appreciation thus far. However, equally [will] likely slow sharply in the next two decades, together with price appreciation and lease growth, since the market slows or even turns negative”
7. Industrywide PropTech Adoption To Accelerate
Commercial property professionals — from operators and owners to agents and architects — can no longer deny that the impact technology is having on the business. More property firms are embracing the most recent innovations to streamline perform tasks and make a more paperless, transparent approach to sourcing deals, managing resources, assessing data and final transactions.
Mihir Shah, co-CEO of JLL Spark — JLL’s PropTech division with a $100M global fund dedicated to investing in real estate technology companies — told Bishop that PropTech companies are now increasingly precious as their products have helped property companies further their own initiatives.
“As part of this endeavor, we’re seeing businesses that normally went through long RFPs demonstrating interest in piloting new products to see which ones are viable. This helps them establish [return on investment] faster and assists the winners grow quicker,” Shah said. “This willingness to attempt new things will help PropTech adoption in 2019 and beyond.”
8. Investment In Value-Add Assets To Assist Assuage U.S. Workforce Housing Availability, Affordability Concerns
Demand for accessible and affordable workforce housing options will remain a topic of interest from the multifamily industry, as expensive land and development costs make it increasingly hard to build affordable housing from the ground up. This is especially a pain point in urban metros, JPMorgan Chase Head of Commercial Real Estate Al Brooks advised Bisnow.
“The ongoing job growth we have been experiencing from the U.S. is having a huge impact on labour housing affordability in major cities. This influx of talent continues to be fueled by the need to maintain near proximity to operate, the ease of mass transit options, in addition to the appeal of being in the middle of the activity in major metropolitan areas,” Brooks explained.
CBRE Americas Head of Multifamily Research Jeanette Rice stated investment in value-add multifamily assets can help alleviate these concerns.
“Workforce housing will also stay attractive in 2019 due to demand outpacing available supply, thereby maintaining vacancy rates low and rental growth over the general multifamily sector.
“Investor interest will even remain very high in 2019. Interest is coming from all sorts of capital, including foreign and institutional funds as well as traditional sources like smaller buyers. The appetite for workforce housing is quite powerful for the greater property fundamentals and greater yields. Value-add investment will likely still predominate in 2019 and remain mostly profitable. Acquisitions of stabilized product are also appealing for many investors, especially those with longer-term hold horizons,” Rice explained.
9. Millennials To Keep Flocking To Hipsturbias And 18-Hour Suburban Cities
Research and information has dispelled the long-held myth that millennials are city-flocking suburbia haters. With aging millennials now hitting their early 30s, many are turning into 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 select non-gateway markets, ULI reports in its 2019 Trends poll. “Hipsturbias” or even”Urban-burbs” have been used to classify those suburban markets with greater walkability and access to public transit which so resemble urban metros.
A U.S. lender senior writer told ULI the following:
“The first stage is millennials moving to the suburbs to get bigger, more affordable homes and accessibility to colleges, so adequate single-family home and multifamily housing will be necessary. Retail follows rooftops, therefore retail development to meet the new residents’ needs will follow. Last, you might start to view more emphasis on employment centers as residents decide they want to operate closer to where they reside.”
10. Investors To Favor Industrial, Multifamily And Retail Assets From The New Year
It comes as no surprise that industrial property assets are an anticipated favorite for investors in 2019, along with multifamily assets, based on ULI’s 2019 Emerging Trends report. Deep-pocketed investors such as 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 a portfolio of 41 warehouses from FRP Holdings Inc. for $359M.
More interesting is the fact that retail is expected to draw attention from shareholders in 2019, especially those assets ripe for redevelopment and updates.
“Many shopping center properties are simply not likely to come back as successful retail resources. But while some are reduced in price to a mere property value, many are well below replacement cost and also have good places for alternative uses,” ULI reports. “If a site is adequately big, mixed-use is a superb alternative for close-in suburbs appearing to exploit maturing millennials’ desire to enter their next life-cycle phase. There is a chance to turn the tables around the e-commerce trend that fostered the obsolescence by redevelopment into distribution centers.”
11. Investors To Keep 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, and the trend is very likely to last in 2019.
“Due to the high rates and limited opportunities in main U.S. metros, investors are continuing to focus more on secondary markets, that can be enjoying double-digit increase in investment activity and substantially more powerful price increases than in the primary (mostly coastal) subway markets,” Colliers’ Nelson said. “However, those tendencies are likely to undo if/when we see the economic slowdown, and investors seek the safety of bigger, more liquid markets”
This behaviour is typical at a late-stage cycle such as this, CBRE Chairman of Americas Research Spencer Levy said.
“The downside of the coin is it is standard of late-cycle investment action that you see a shift from primary to secondary in search for yields. What is new is we’ve not seen that a compression of yields that would be average in late-market action,” he explained. “What occurs is cap levels in primaries and secondaries converge; we have not seen that in office and retail, but we’ve seen that in multifamily. The question is, is this tendency durable during a recession which will happen in the next few years?”
12. Construction Industry To Continue Grappling With High Prices, Labor Shortage
Increasing 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, with land prices and housing prices and availability following near at 4.14 and 4, ULI reports.
“Growing construction costs may be the most understood story of 2018 that has to grow to be a material narrative in 2019,” CCIM’s Conway said. Conway identified a variety of factors exacerbating price and labor challenges in the building business, including a decrease in immigrant construction laborers after the financial crisis, crazy superstorms as a result of climate change which has resulted in enormous rebuilding efforts throughout the nation, and tariffs and the trade war.
“Key materials such as steel,… toilet fittings from China, lumber from Canada, etc., are impacted. Look closely at the quarterly earnings reports from construction materials companies regarding the sort of input cost increases being experienced. Caterpillar, for instance, reported strong earnings in Q3 2018, however, a sizable rise in material inputs such as steel. The result is growing pressure on margins.
“That is the important takeaway regarding construction labour and material prices increases — margins are going to be squeezed, cost overruns incurred, and values under stress unless rents and [net operating income] could be raised to cover the increasing costs of new building,” Conway said.
13. U.S. Office Real Estate Markets To Stay Stable, Though Demand May Slow
CBRE stated 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 lead to strong absorption rates and renewed attention from shareholders.
“One part of office property expansion is the requirement for more office space near entertainment venues and other comforts. These office buildings are relying upon smaller, flexible workspaces. Working spaces also have become more prevalent as professionals select alternative working procedures,” Green told Bishop.
That said, Colliers’ Nelson expects office demand will taper off in response to a slowdown in job development and strong supply amounts.
“requirement for office space will medium in response to slower job creation, just as a significant quantity of projects already under construction starts to enter the current market,” Nelson said. “So vacancy will trend up 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 profound and will continue throughout 2019. The convergence of brick-and-mortar and internet 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 year — including Sears, Mattress Company, Nine West and Claire’s — the situation surrounding most shop closures next year ought to be vastly different, CBRE’s Cordero explained.
“I think that the overall industry sentiment is that 2017 was likely the peak year [for retail closures]. I believe there’ll continue to be closers in 2019 — it is difficult to say whether we’ll have less or more — but I would say a great deal of the closures that we’ll see in 2019 will be about that which we predict portfolio rationalization or optimization when they’re about retailers that are failing.
“Retailers in lots of cases do need to close shops to reorient their portfolios — therefore I really do expect closures in 2019, however I don’t really [connect ] a great deal of those closures as dying or neglecting retail, it is more of morphing and adapting retail,” Cordero said.
15. Multistory Warehouse Development From The U.S. To Accelerate
Requirements have ripened for multistory warehouse development from the U.S., and this trend will continue into 2019. Facilities are detained 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 no longer as cheap and there is less accessible land than in earlier times CBRE’s Levy explained. Unprecedented demand for logistics and warehouse space now has changed that dynamic.
“The rents which are being attained in these multistory industrial [centers ] could be just two or three times what you are seeing in traditional industrial. We believe this specific trend is simply at the start in the United States,” Levy said.
Though the lumps in lease are significant, CBRE Head of Industrial Research David Egan reported these multistory facilities can also present operational challenges for users.
“The users are going to have to alter how that they operate in these buildings to make it operate efficiently,” he said. “The operational problems aren’t small — to change how that they move stock in and outside of those buildings is not a small little tweak”
16. Grocery Chains To Move Further Online, Expand Their Online Offerings With The Assistance Of Tech
Up to now, delivering fresh markets to customers’ doors has been a fairly nascent notion — and it is not an simple job. Grocers already battle low profit margins because of increasingly declining food prices and new low-cost competitions like Aldi entering the market. The challenges, coupled with expensive online delivery expenses, has maintained online grocery delivery in its own infancy. But CBRE’s Cordero sees that tendency changing in 2019.
“Grocery is probably, among all of the retail classes, among the cheapest for online penetration. We believe due to a combination of technological progress, investment on the part of retailers and consumer demand, that we’re going to see a fairly significant shift next year at grocery going on the internet and retailers offering more to customers in that domain name,” she said.
17. Economic Development Teams Round The Country Continue To Feel The Effects Of HQ2 Competition
“An open contest such as the Amazon HQ2 search is an opportunity for communities to redefine their own legacy image and showcase what is different about their economy now versus 10, 20 or even 30 years back. The 238 communities which collaborated for the Amazon HQ2 are decreasing economic growth as a result,” CCIM’s Conway said.
“Amazon is using the information to site select new fulfillment centers in places like Tucson, Arizona, and Birmingham, Alabama. Other major transport and e-commerce companies, like Norfolk Southern Railroad, have utilized the data to create a relocation decision (in Norfolk Southern’s case, to Atlanta, that was one of the 20 finalist cities for Amazon HQ2). To put it differently, the Amazon HQ2 research was to economic development what the census is to demographics.”
18. U.S. Hotel Occupancy To Break Records In 2019
The hotel industry is expected to experience a record-breaking year of occupancy degrees in 2019, according to a forecast from CBRE Hotels America Research. Occupancy levels are expected to spike to 66.2% following year, the 10th successive year of growth. This increase will be driven with a 2.1% growth in demand to cancel the incoming supply.
That strong need may not be felt evenly across markets, Quadrum Hospitality Group President Foiz Ahmed stated.
“Although the hospitality sector keeps growing, the economies where Quadrum is active will stay relatively horizontal given their higher-than-national average occupancy prices. While ordinary daily rates are increasing nationally, the industry will face some challenges due to the rapid adoption of programs which provide discounted rates.”