In describing the current commercial real estate market, Mary Ludgin, managing director, head of global research for Heitman, noted that this moment in the cycle could not be better.
During her keynote presentation at NAIOP’s National Forums Symposium 2015, she used the phrase “how sweet it is” to sum up her view of the market. Learn why in part one of this series. Check in tomorrow for part two.
Positive Market Trends
According to Ludgin, the United States is finally shaking off the slow growth mode from the past five years. She noted that it almost doesn’t matter what is happening elsewhere in the world when the U.S. economy is hitting on all cylinders. She acknowledged two risks she sees: that the Federal Reserve is in a position to act on interest rates, but they won’t act soon; and the decline in oil prices, which has mostly regional implications.
Overall, Ludgin sees the market remaining positive for the near term. With regard to job growth, she recommends that the March employment numbers be ignored. Job growth is the best predictor of overall economic growth and the March numbers were an anomaly since the economy has had consistent job growth for many months. She noted that the U.S economy had exceed the monthly trough-to-peak period, which was previously 61 months; we are now in the 69th month of growth and expansion.
Ludgin also noted that all four product types have seen positive net operating income (NOI) growth at this point in the expansion. Three of the four product types are experiencing an accelerated rate of NOI growth, including apartments, office and industrial.
While acknowledging that retail has seen as much NOI growth, she confirmed that in this product type it is not about improving occupancy, but about rent steps in leases and how the leases roll up to market. She confirmed there has been healthy growth in retail, but not the same “rip-roaring NOI growth as we saw as the boxes finally got filled.”
“The other part of how sweet it is: development broadly remains tempered,” stated Ludgin. She noted that only multifamily has seen great growth and that construction is at very low levels. “Never in our lifetime have we ever seen retail construction at such low levels…office remains at depressed levels that we last saw coming out of that dreadful downturn we had in the early 1990s,” added Ludgin. She stated that industrial is starting to tick up, but is still really modest.
Retail’s Loss is Industrial’s Gain
“For those of you in the industrial sector, things haven’t been this good since well before the global financial crisis,” stated Ludgin. Vacancy is now at about 7 percent. The last time it was this low was not in the run up to the global financial crisis but after the tech bust of the early 2000s. Ludgin noted that construction is starting again in a meaningful way and pointed out that the industry went through the “built to suit period, we went through the significant pre-leasing period, and now we’re in the spec development period.”
With everything in this sector so “sweet,” she posed the question: Do we overbuild good demand?
Ludgin acknowledged that retail’s loss is industrial’s gain. She noted that a significant amount of the space demand has fueled the sharp drop in the vacancy rate which relates directly to the creation of omnichannel presence and warehouse distribution space. She estimates that e-commerce accounts for about 33 percent of all the industrial or warehouse leasing of spaces 200,000 square feet and above over the last couple of years.
In addition, Ludgin confirms her point of view that the industry is likely not through that yet. “There are many laggards that are still trying to figure out how it is that they distribute to stores and to online purchasers. That’s going to fuel continued space demand for the next couple of years at least,” she said.
Read part two of this article on Thursday and tell us what you think. Do you agree with Ludgin on this sweet spot in the market?
Wendy Mann is Senior Vice President at NAIOP.