12 Trends For 2012 Final Locked[2]


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12 Trends For 2012 Final Locked[2]

  1. 1. CBRE Econometric Advisors SPECIAL REPORT12 Trends for 2012 January 2012
  2. 2. TABLE OF CONTENTS Special Report: 12 Trends for 2012 TREND #1 EMPLOYMENT GROWTH WILL CONTINUE TO MUDDLE THROUGH PAGE 3 Balance Sheets Prevent Level of Growth Needed TREND #2 CAPITAL FLOWING, BUT ONLY TO THE RIGHT OPPORTUNITIES PAGE 4 Global Picture Shows Eastern European Growth TREND #3 HOUSING SEARCHES FOR BALANCE PAGE 6 Rising Rents Help to Stabilize Home Prices TREND #4 SUBURBAN OFFICE WILL CONTINUE TO TAKE PART IN THE RECOVERY PAGE 8 Busting the Myths Suggesting the Death of Suburban Office TREND #5 SHORTAGES IN LARGE WAREHOUSE SPACE WILL ACCELERATE PAGE 10 Large Warehouses Recovering Faster than Overall Industrial TREND #6 HOTEL ROOM DEMAND GROWTH WILL SLOW PAGE 12 Overseas Slowdown will Contribute TREND #7 DEBT MARKET DISTRESS MOVES PAST PEAKS BUT REMAIN HIGH PAGE 13 A Widening Window of Investment Opportunity? TREND #8 CONSTRUCTION MAY RETURN SOONER THAN YOU THINK PAGE 15 Single Tenant and Delayed Projects Bring Back New Building TREND #9 RETAIL RENTS FINALLY SEE BOTTOM PAGE 18 Lagging Behind Other Property Types, Last Pieces Fall in Place TREND #10 MOVEMENT FROM TRUCKS TO TRAINS WILL BE INCREMENTAL PAGE 19 Rise of Rail Inevitable but Slow TREND #11 IN SPITE OF CAPITAL MARKETS VOLATILITY, FINANCE JOB CUTS TO END PAGE 21 BY MID-YEAR 2012 Many Finance Sub-categories Have Seen Losses Level Off TREND #12 CAP RATE COMPRESSION WILL END PAGE 23 Cap Rates Flat or Worse in the Next Two Years January 2012 Page 2 © 2012, CBRE, Inc.2
  3. 3. TREND #1 Special Report: 12 Trends for 2012 answer to the lack of professional surprise for forecastsEMPLOYMENT GROWTH WILL of moderate employment growth in 2012. Output, asCONTINUE TO MUDDLE THROUGH measured by Gross Domestic Product, is our best measure ofBalance Sheets Prevent Level of Growth demand for work, but increases in output are not sufficient toNeeded generate jobs because work can sometimes be accomplished by stretching existing resources, rather than employing new2012 will mark the third consecutive year that employment ones. At no time has this been truer than the recent cycle.fails to generate much growth. That we begin this period witha high level of unemployment makes it all the more painful, Economists think about productivity both as an importantand that the upcoming year will again make little progress long-term factor for the economy and also as it relates toin reducing unemployment is frustrating for everyone. cyclical employment growth. Over longer periods, higherAvailability of labor generally encourages businesses to hire, productivity growth is one of the best things an economy canso unemployment remaining high is surprising; yet what produce. It is the foundation of sustainable wage growthshould be surprising among economists and business leaders (or at least an expanding pie). Within a cycle, however,is widely accepted. It is worth examining why there has been productivity is not always as welcome, as higher productivityacceptance of high unemployment in this business cycle. means that businesses can expand without hiring. In recent cycles, productivity has been highest as output has started toThe connection between output and employment is a factor rebound, with companies first finding efficiencies that wouldin this acceptance. That the difference between output allow their current workers to accomplish more and only latergrowth and employment growth is productivity, is effectively resorting to hiring as demand continues to expand. In thea mathematical identity. As such, productivity is part of the early stages of this expansion, year-over-year productivity growth was even higher than usual.Productivity Now More Likely to Precede Job Growth Employment YoY Growth (%) GDP Productivity 10 8 6 4 2 0 -2 -4 -6 1984Q1 1985Q1 1986Q1 1987Q1 1988Q1 1989Q1 1990Q1 1991Q1 1992Q1 1993Q1 1994Q1 1995Q1 1996Q1 1997Q1 1998Q1 1999Q1 2000Q1 2001Q1 2002Q1 2003Q1 2004Q1 2005Q1 2006Q1 2007Q1 2008Q1 2009Q1 2010Q1 2011Q1 2012Q1 2013Q1 Source: CBRE Econometric Advisors, BLSIn determining where productivity (and therefore employment) productivity growth. The 1980s and the period from 2004is going in the next year or two, judgments are made. First, to 2008 were marked by low productivity growth, while thewhat is the level of productivity growth we should expect in 1990 tech boom led to growth rates often above 3%.this expansion, and second, what cyclical effects can weexpect next year? The former question is interesting because The slowdown in GDP in 2011—averaging 1.2% in the firstthe last three expansions have seen such different levels of three quarters—affects our views on the cycle of productivity January 2012 Page 3 © 2012, CBRE, Inc.
  4. 4. Special Report: 12 Trends for 2012 in 2012. Such slowdowns are indeed a setback for the years. Net exports were previously a hope for an increase employment recovery, quite literally. In contrast to similar in GDP but the European crisis closed off this avenue in , stages in the past two cycles, in the past year productivity was 2011. Government is the last remaining category and one brought down more by slowing output than by improving need look no farther than the September debt ceiling crisis to employment growth. This puts us back to where we were become dispirited about any assistance being offered there. some time ago; so, while it won’t be at the magnitude of What has not been discussed enough is how the rise of the 2009, we expect to see a period of productivity increase filibuster suggests that the future will insure no assistance as before we see hiring pick up. As a result, even as we see well, regardless of the results of this November’s elections. GDP improving in 2012 over 2011, it will take much of the year for this to translate into significant new hiring. Until these conditions change—say, after debt is better paid down or housing has begun its recovery—it is hard to see Looking at these factors from another angle, output growth enough aggregate demand coming through to change the needs to be exceptionally high to restore the unemployment employment situation in the way we all would like. This situation to normal. To take some round numbers: if we are explains why there are very few optimists expecting anything around 9% unemployment today, and 5% is more in keeping more than “muddling through” over the next few years. with full employment, we need 2% employment growth On the brighter side, trends have been seeing gradual above the annual labor force growth of around 1% just to improvement in all the underlying constraints mentioned reduce the unemployment growth within two years. But in in the above paragraph, so expectations for a return to order to obtain the 3% employment growth target we just recession remain rare among economists. From this arrived upon, we need GDP growth to be 2 percentage points standpoint there is contentment with “muddling through”, faster, to overcome the expected increases in productivity. as it is better than the next most likely alternative. In short, growth rates need to be routinely 4% to 5% over many quarters to see the type of job recovery that has been more typical in the post-war era. TREND #2 So while there is some relief when GDP growth makes it CAPITAL IS FLOWING, BUT ONLY TO above 2%, this is more about the economy having what it THE RIGHT OPPORTUNITIES takes to avoid dipping back into recession, than it is about Global Picture Shows Eastern European the economy improving in any way that the average citizen Growth will appreciate. Indeed, recent job gains, retail sales, and industrial production have increased enough to make us We will look back on 2011, fondly or not, as a year comfortable that a recession is not imminent. Unfortunately, full of economic and financial shocks that reverberated we also believe that output growth will stay in the 2% range throughout the global economy. Volatile global financial for much of 2012. markets, solvency concerns throughout the European Union, and the combination of sluggish U.S. job growth The reasoning has to do with to the differences between and political gridlock in America’s capital led to a drop in more typical recessions and what some have called the optimism following a number of positive indicators and “balance sheet recession” we are seeing today. The distinct reports that characterized the global economic recovery feature of the recent recession is the high level of debt and in early 2011. This uncertainty has dampened both the the need across much of the economy to deleverage from already-weak recovery in advanced economies and the those high levels. If we are to achieve 5% GDP growth, a more robust expansion in emerging markets. Meanwhile, good anchor would be for consumers to spend at a similar Western Europe is flirting with yet another recession. pace. This has happened in the past as consumers have made up for delayed purchases, but the necessity to pay And while the current high level of uncertainty puts any down debts has placed a limit on how fast consumers are projection at risk, we expect the pattern of a two-speed willing to increase spending. We could turn to investment, global economic recovery, with pockets of economic but the overhang of housing means that the major category and commercial real estate growth in select regions and of residential investment will be moribund for a few more markets, to continue as we head into 2012. January 2012 Page 4 © 2012, CBRE, Inc.4
  5. 5. The Multi-Speed Economic Recovery Continues Special Report: 12 Trends for 2012 commercial property prices remain below their pre- Western Europe United States downturn peaks, exposing investors to high refinancing Real GDP, YoY % Change Asia Pacific World risks, which may increase property sales as investors seek 10 to raise capital. 8 6 4 Can We Find Growth Anywhere? Europe presents a prime case of how demand drivers for 2 real estate exist even in the face of economic uncertainty. 0 -2 The early days of the economic recovery were marked by -4 strong investor interest in prime assets in prime markets, -6 with trophy office buildings in major markets such as London -8 and Paris experiencing great interest and bidding activity. 2006Q1 2007Q1 2008Q1 2009Q1 2010Q1 2011Q1 2012Q1 2013Q1 2014Q1 2005Q1 Germany and France—traditionally real estate investment magnets, both of which have so far outperformed the overall Eurozone in terms of economic growth—attractedSource: IHS Global Insight as of Q3 2011. a great deal of capital targeting their commercial property sectors. But with the economic recovery waning as a resultThe Investment Market of sovereign debt concerns, investors are searching forDespite a backdrop of deteriorating European economic properties beyond traditional hotspots. This is evidencedand financial market indicators, property investment held by recent acceleration in cross-border activity targetingup well in 2011. Globally, commercial property transactions the commercial property sector. According to Real Capital(excluding land sales) in the first three quarters of 2010 Analytics, in the third quarter of 2011, the percentage ofincreased by 40.3% compared to the same time period trading volume involving cross-border capital reached itsduring the previous year. Regionally, growth was strongest highest point in three years. And while the usual marketsin the Americas (+71.6%) followed by EMEA (+31.2%) and in U.S., France, Germany and the UK continue to attractAsia Pacific (+16.8%). capital, yields in these markets have fallen and cross-border investors are shifting to other areas of Europe despiteGlobal Transaction Volume Continues to Recover concerns over the future of the European Union. Investors Asia PacificQuarterly Transaction Volume by Region, billions EMEA have begun to look at other areas, such as Poland, Russia Americas $140 and Turkey. Recent surveys show a marked increase in cross- $120 border transactions in Central Eastern European markets, where governments are not straddled with the overarching $100 debt issues of many of their larger neighbors. $80 $60 The increased investor interest in Central and Eastern $40 Europe reflects growth in the demand for certain classes of $20 commercial property. Of the fifteen global office markets with the strongest growth in occupied office stock over 0 the past year, nine are located in the region. Warsaw, for 2007Q1 2007Q2 2007Q3 2007Q4 2008Q1 2008Q2 2008Q3 2008Q4 2009Q1 2009Q1 2009Q3 2009Q4 2010Q1 2010Q2 2010Q3 2010Q4 2011Q1 2011Q2 2011Q3 example, was the only EU nation to avoid a recession inSource: Real Capital Analytics 2009, and experienced a 6.5% increase in occupied officeRecent surveys point to continued investment in commercial space during the past four quarters. Other markets in theproperty—transactions remain below their pre-recession region recording similarly strong performance includepeaks, but volumes continued to recover in 2011. Moscow, Kyiv, St. Petersburg, and Prague.Transaction volume is expected to remain steady in 2012,even in Europe; according to the European Central Bank,approximately a third of outstanding commercial propertymortgages are expected to mature by 2013. Prevailing January 2012 Page 5 © 2012, CBRE, Inc.
  6. 6. Office Hotspots in 2011 TREND #3 Special Report: 12 Trends for 2012 Growth in Occupied HOUSING SEARCHES FOR BALANCE Market Office Stock Rising Rents Help to Stabilize Home (Q3 2010 - Q3 2011) Prices Abu Dhabi 25.8% Guangzhou 19.2% Can housing finally find a bottom in 2012? There are Shanghai 15.2% some good reasons to think that it can, as long as one Beijing 14.5% looks at the whole market, rather than just the for-sale segment. Total household growth and new construction Kyiv 12.6% should strengthen as the economy adds more jobs and Moscow 11.7% the unemployment rate drops. It is important to see the Bucharest 11.1% two sides of this trend, however—their interaction is what Mexico City 10.5% ultimately drives the housing recovery. St. Petersburg 9.9% Owner-occupied units account for about two thirds of Sofia 9.5% the nation’s housing demand. Given the still-high rate of Belgrade 8.8% foreclosures and their negative impact on home prices and Warsaw 6.5% sales, it is likely that owner demand will continue to struggle, San Jose 4.5% although perhaps not as much as it did last year. At the Bratislava 5.4% same time, rental demand is expanding at a near-record pace that is well ahead of supply. As a result, vacancy is Prague 4.6% falling and rents are rising in every region of the country—a Source: CBRE Research key building block for an eventual recovery in home prices. These markets are enjoying demand for office space from international as well as domestic occupiers. Healthier The housing market is being shaped by many countervailing government balance sheets, relatively low labor costs, forces. The costs of buying a home now are record-low and high rates of education have attracted a number of relative to both household incomes and rents, which international companies, both from continental Europe makes pursuing homeownership today an opportunity of and beyond. a generation. At some point, this high and rising housing affordability should unleash pent-up demand, leading to Summary rising sales and prices. The chart below illustrates this, The outlook for the coming year is very dependent on displaying the ratio of monthly principal and interest governmental policy responses—which makes the level of payments on a median-priced home, to rent. This ratio is uncertainty high. Policy responses have been inadequate computed historically using the all-transaction home price and slow across the globe, and this shows no signs of and apartment rent index. In 2011, for example, with a changing. Commercial property data, however, point to a 4.9% interest rate, the cost of owning a $250,000 home number of markets that have experienced positive growth in purchased with a 20% down payment comes to about occupier and investment demand—even in Europe—despite $1,100 a month—which is very close to the current national the uncertainty. That economic momentum remains uneven average rent. It turns out that the current ratio is not only will continue to drive investment activity both within and more than 20% below the historical average; it is also at across borders. a record low over this period. January 2012 Page 6 © 2012, CBRE, Inc.6
  7. 7. Housing Affordability is at a Record High Special Report: 12 Trends for 2012 the second half of the year. At the same time, this impactRation of monthly principal and interest to rent, 2011Q3=1 should be less negative than in 2011, if the economy does1.7 show steady improvement in the first half and the so-called1.6 “strategic defaults” do not intensify. Under this more1.5 optimistic scenario, almost 0.5 million households will still1.4 lose homes, which would push the homeownership rate1.3 2006-2011 average down by another 30-50 basis points. As a result, prices1.2 will still decline, but probably by only 1-2%, as compared1.1 to the 3-4% in 2011, when the losses to owner demand1.0 were also more severe.0.9 The U.S. Homeownership Rate is Likely to Continue 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Declining in 2012 Homeownership RateSources: Federal Reserve, FHFA, MPF Research, CBRE Econometric Advisors. Renter Households Homeownership Rate, % Renter Households, Millions 71 42Whether it does unleash demand ultimately depends on 70 40households view of homeownership in this fragile market. 69 38This view is being shaped by three factors. First, with 68 36 67 34hundreds of thousands of homes entering foreclosure 66 32every month, some buyers expect further declines in home 65 30prices, or are uncertain about the fair market value of 64 28 63 26homes. Second, the labor market is still too weak to boost 62 24confidence much and with the unemployment rate high, it 61 22takes a person longer to find a job today than it did in the 60 20 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010past. In such an environment, households have to be ableto move quickly to where jobs are. Being that it takes time Sources: Bureau of the Census (Housing Vacancy Survey), CBRE Econometric Advisorsto sell and buy a house, mobility and homeownership are atodds with one another. A third factor is buyers expectations The silver lining to this is the accompanying expansion in thefor building equity while owning homes. With property taxes number of renter households: combined with demographicand maintenance costs high and home price appreciation growth, the shift from owning to renting should yield overyet to resume, home ownership does not yet look like the 0.7 million new renters. As a result, growth in rentalsure investment it used to be. Another key impediment to demand will exceed supply next year, although not byhome ownership is that higher mortgage down payment as much as one might expect. While new completionsrequirements, combined with depleted household savings, intended for rent will be low by historical standards—nearare making it much harder for households to qualify for 0.2 million units—rental stock will also add over 0.4loans. As long as unemployment remains high, rebuilding million units through conversions from owner-occupiedcredit will be a slow process for most households, and and vacant for-sale units. More than 4 million unitswill be particularly challenging for those who are near have been converted to rentals since 2004, significantlyretirement. constraining improvement in the rental vacancy rate—and conversions will remain a significant headwind, especially ifForeclosures remain a major drag on housing appreciation, owner demand falls. Considering this, rent growth shouldand progress in stemming them has been slow. While rates approach its long-term average of about 3%, but a muchof foreclosure starts and completions have declined from stronger inflation will prove challenging.the peak, the share of mortgages in foreclosure remainsnear its record high of 4.5%. Distress is likely to continue Home prices remain under pressure from a majorto affect home sales and prices during 2012’s spring imbalance brought about by the housing boom and bustand summer home-buying season, considering that the of the last decade: there are about 2.5 million morelabor market is not expected to gain much traction until vacant units than there were prior to the correction. Of this January 2012 Page 7 © 2012, CBRE, Inc.
  8. 8. Special Report: 12 Trends for 2012 inventory, only 0.5 million units are on the market, however, on their way to gradually becoming a thing of the past, as and this has a direct impact on prices. Current household individuals are choosing more central, urban locations with growth is 0.7 million per year (half the historical average) easy access to mass transit, restaurants, cultural activities and with home demolitions of 0.3 million, new demand and their places of work. Such a trend would not only have must be close to a million units and well ahead of the 0.6 a major impact on residential real estate, but it would also million in new completions. Household growth is a largely present a significant challenge to the sustainability of the a function of labor market conditions, and with a stronger nation’s suburban office markets. pace of recovery, virtually all of the excess supply for rent and for sale could be absorbed by the end of next year. The The problem with the argument for the de-suburbanization negative effect that the glut of vacant homes on the market (or re-urbanization) of America to this point is that it is less is having on prices would subside as a result. theory than it is a hypothesis that has yet to be fully tested. The story of a population base shifting from suburban to It is much harder to foresee how many of the homes now in city locations sounds plausible, but the lack of empirical the “shadow” inventory might be put up for sale next year. evidence thus far makes it hard to defend. While data Historically, the share of these units entering the market has from the most recent decennial Census show that cities are increased when buyer demand and prices were strong— indeed growing, they also show that they are not growing which will not be the case in the near term. At the same any faster in most cases than their suburban counterparts. time, many of these units are non-primary residences, so it is possible that more owners will decide to strategically None of this matters, however. If a story gains enough default on their mortgages this time around—especially in traction, it can take on a life of its own—even without the areas were home prices are still down by more than 20%. research or data to back up the argument. For their part, Investors’ views of the market will play a major role in commercial real estate investors appear to have bought into shaping their decisions. the argument for the renaissance of center cities, and are adopting strategies to divest themselves of suburban assets. In summary, U.S. housing should see a slight improvement Transaction data have shown that over the past year an in price trends along with moderate rent growth in 2012, increasing share of deals has been based in downtowns, preparing ground for a more sustained recovery later. as investors view these assets to be more liquid, and are Rising rents can help to stabilize home prices but any willing to buy yields below 5% in markets like New York. real progress can only take place when households have trust and confidence in the economy—including a more But investor behavior does not fully support the argument robust job market and an expectation of building home that the suburban office market is dead as much as it equity—and enough resources to qualify for mortgages. reveals something about investor appetite for risk at this Foreclosures remain the major wild card and as such the stage in the recovery. Investment activity has been focused outlook will depend on how quickly they are being resolved. largely on core assets in high-profile locations in markets In this regard, 2012 can be viewed as a transition year for like New York, Boston and San Francisco; the reasoning the U.S. housing market. is that prime downtown locations offer a buffer against downside risk by way of increased liquidity, when compared with suburban locations. This is nothing new, however, as investment typically picks up for well-located core assets TREND #4 first during a recovery, then spreads beyond downtowns and SUBURBAN OFFICE WILL CONTINUE into suburban locations as investors grow more willing to TO TAKE PART IN THE RECOVERY take on more risk to expand their portfolios. Busting the Myths that Suggest the Death of Suburban Office Another way to look at this argument is through property fundamentals. If a secular shift is occurring away from There has been no shortage of discussion lately about the suburbs and toward downtowns, surely this should manifest death of the suburbs as an American institution. Some itself in the property data. We can start by looking at metropolitan population pundits suggest that suburbs are demand for office space, which should reveal location January 2012 Page 8 © 2012, CBRE, Inc.8
  9. 9. Special Report: 12 Trends for 2012preferences for businesses. Historically, net absorption in the office market recovery simply does not hold up acrossabsolute terms has favored suburban markets, but in recent the board. In fact, we see a picture that suggests that thedecades this has largely been a function of the relative strength of the office market recovery is more focused onsize of the suburban office market, which today makes up submarkets outside of the nation’s CBDs. In itself this isroughly two-thirds of the nation’s office market. Looking at not all that surprising; historically, demand for suburbanthe net absorption rate, which accounts for the relative size office space has outpaced that of downtown locations. Whatof the market, allows for a more fair comparison. might be surprising at this point, then, is that demand in downtown office markets has managed to keep pace withWhen these series are graphed, we can see the relative the broader trend.demand trends for downtown and suburban office space.What we see is that the recession’s demand fallout was But this also highlights an important distinction betweenfar more severe for downtowns, and that they still have a submarkets and markets. When we talk about downtowngreat deal of ground to make up. Moreover, there is not versus suburban markets, we are comparing manya discernible difference between downtown and suburban different and diverse submarkets within cities and broaderoffice demand in the period since the recovery began, metropolitan areas, respectively. It is entirely possible fordespite the perception that most of the improvement has pockets of strength to lead to more robust results for abeen in core locations. particular market. In New York’s downtown submarkets, for example, this can be seen by looking at Sixth/Park AvenueOne might even argue that suburban office has outperformed and perhaps World Financial Center (WFC), where vacancydowntown, in terms of demand. With respect to core rates are well below market average and are outperformingperformance in downtowns, just a handful of markets are their suburban counterparts. While these may be attractiveshowing solid performance. New York is perhaps the best submarkets, investors will also have to pay a price for suchand largest example of this type of improvement, but it prime locations, in the way of lower yields.also skews the results. By itself, New York has accountedfor nearly half of all downtown demand year-to-date, and Another argument for downtown office investment has to doa comparison of downtown versus suburban office without with rent and vacancy. True, vacancy rates in the suburbsNew York produces a very different result, and a different tend to run higher than downtown markets, and tighterview of relative performance. leasing markets support rent growth, which drives income and returns. But vacancy rates don’t in themselves dictateAre Suburbs Lagging or Leading in the Recovery? rent growth—it’s the market or submarket equilibrium Downtown vacancy rate level that is important. To that point, bothOccupied Stock, YoY % Chg. Suburban Downtown ex-New York downtown and suburban vacancy remains elevated and 4 above what would support rent growth on par with broader 3 inflationary measures. But this is changing and the rent 2 cycle has shifted from correction to recovery. 1 Downtown office rents have historically grown faster during 0 upswings, which can attract investors when the market is -1 on the way up—but they fall faster during corrections. -2 Because downtown rent cycles see such wide oscillations, -3 average growth between downtown and suburban office 2007.1 2007.2 2007.3 2007.4 2008.1 2008.2 2008.3 2008.4 2009.1 2009.2 2009.3 2009.4 2010.1 2010.2 2010.3 2010.4 2011.1 2011.2 2011.3 2011.4 2012.1 2012.2 2012.3 2012.4 markets is statistically difficult to distinguish over the pastSource: CBRE Econometric Advisors. 20 years—something that will not change anytime soon.Leasing decisions in markets like New York are usually While rent growth in downtowns has picked up faster thanreflective of corporate conditions and planning rather than in the suburbs, much of this can be attributed to a veryoutright business formation and job growth. Without this, small core of markets—and submarkets. Once landlordsthe picture of strong downtowns emerging and leading regain a measure of pricing power in downtown markets January 2012 Page 9 © 2012, CBRE, Inc.
  10. 10. Little Difference in Rent Growth Special Report: 12 Trends for 2012 deal of traction in the press without having a good deal Downtown TW Rent Index, YoY % Chg. Suburban of supporting data. For their part, investors should be Downtown Ex-New York 20 conscious of whether their decisions are based on headlines 15 and perceptions of new urban theory, and they should look 10 to how much empirical evidence exists to support their 5 perceptions. 0 -5 -10 -15 TREND #5 -20 SHORTAGES IN LARGE WAREHOUSE SPACE WILL ACCELERATE 2000.1 2000.3 2001.1 2001.3 2002.1 2002.3 2003.1 2003.3 2004.1 2004.3 2005.1 2005.3 2006.1 2006.3 2007.1 2007.3 2008.1 2008.3 2009.1 2009.3 2010.1 2010.3 2011.1 2011.3 2012.1 2012.3 Source: CBRE Econometric Advisors. Large Warehouses Recovering Faster Than Overall Industrial they tend to move more aggressively in order to maximize operating income during the upswing. Again, excluding It comes as no shock to property investors to hear that the New York gives us a much different perspective that shows recent recession ravaged the industrial sector. The sour that rent growth across most markets is roughly the same. economy, falling trade and inventories, and plunging Also, those investors who bought at the height of the market industrial production conspired to push the availability in downtown locations, thinking they were hedging their rate in the nation’s industrial sector to a record high. With bets, are now facing the threat of diminished cash flows the recession now over and many of the sectors’ primary as those leases are starting to roll. This is something worth demand drivers recovering nicely, industrial property has considering even in a market like New York, or perhaps San reported healthy demand every quarter for the past year. Francisco, where rents dropped in excess of 20%, peak to Looking deeper, however, it becomes clear that 2011 will trough, before beginning to rebound. Building owners in go down as a year of consolidating and upgrading by these markets will need every bit of that accelerated growth occupiers. to cover leases signed at the top of the market. Lots of available space combined with very low rent The office market continues to face a lengthy recovery levels has provided great opportunities for occupiers to and after a transition in 2011, next year will be another consolidate space or upgrade to higher-quality space. important step on the road back. The talk about the Consolidation is being reported in markets all over the downtown renaissance and suburban demise will likely country, with firms consolidating multiple smaller facilities continue, but you won’t hear it from us—at least not as part into fewer larger ones in a constant drive to reduce of an argument on permanent trends. Sure, downtown core Demand for Large Buildings Held Up Comparatively assets will continue to trade at a premium and rent growth Well During the Recession will likely outpace its suburban counterpart; that won’t be Small by much, however, and performance will be mixed, with the Absorption Rate Big best downtown submarkets leading improvements. There is 1.2 1.0 also little evidence that demand for office space in suburban 0.8 business parks is likely to evaporate any time soon. 0.6 0.4 The point in all of this is not that 2012 will be the year of 0.2 the suburbs or that investors should alter their investment 0 -0.2 strategies and divest themselves of downtown assets. -0.4 Investors like downtowns for a number of valid reasons, -0.6 including longer lease length, access to capital for liquidity -0.8 2000.1 2000.3 2001.1 2001.3 2002.1 2002.3 2003.1 2003.3 2004.1 2004.3 2005.1 2005.3 2006.1 2006.3 2007.1 2007.3 2008.1 2008.3 2009.1 2009.3 2010.1 2010.3 2011.1 2011.3 and potential for NOI growth in an up market. Rather, our aim is to shed light on a debate that has gained a great Source: CBRE Econometric Advisors. January 2012 Page 10 © 2012, CBRE, Inc.10
  11. 11. Special Report: 12 Trends for 2012expenses. This has led to above-average demand for larger rate of large buildings. The large building availability rate,facilities during the past year. For almost the entire recession which historically has been several percentage points belowand specifically for the last four quarters, the nation’s largest the overall sector, rose faster and sooner than that of allindustrial facilities—those of more than 500,000 sf—have buildings early in the recession, until it was essentially inbeen experiencing positive demand. line with the overall industrial sector. The recession caused new construction to pull back dramatically for all types ofThe recession officially started during the fourth quarter of buildings, even as demand for large buildings remained2007, and large buildings have reported comparatively positive during most quarters. This allowed the segment’srobust demand since the beginning, with average quarterly availability rate to stabilize sooner, and to drop faster, thandemand of nearly 4 msf, compared to -5.9 msf for smaller that of the overall industrial sector.facilities. For the past year, large buildings have beenresponsible for 18% of all the absorption in the nation’s Although nationally the demand for large buildings hasindustrial sector, yet large buildings account for only certainly outpaced demand for small buildings, availability13% of the nation’s stock of industrial space. This strong rates are comparable, due to relatively high large buildingabsorption has allowed the large building segment to construction. In some markets the difference is far greater,see its availability rate fall 100 bps since the peak of the however, and shortages are being reported in places.recession, to 12.5%; the country’s smaller buildings have Austin, for example—a smaller industrial market whereseen a decrease of 90 bps over the same period, to 14%. larger buildings comprise just under 10% of industrialWhile those two figures are not dramatically different, the space—has no available space in its largest buildings.availability decrease among large buildings is impressive Houston and Riverside, two of the largest markets we cover,when you consider that large buildings also accounted for with great infrastructure and transportation networks, are44% of all construction during the period—a far greater both reporting availability rates below 5% among theirshare than we’ve seen at any point in our history. But though largest buildings, versus double-digit rates for the marketthe share of total construction is high, absolute levels of new as a whole.construction remain very low, currently running at about half Shortages Now Bring Reported in Some Marketsof what is being demanded. Over the past four quarters, Current Availability Rates (%)the construction rate for large buildings has been 0.16%, Market Large Buildings Market Levelwhile the absorption rate has been 0.39%. Austin 0.0 14.4 Availability Rates Stabilized Sooner for Large Houston 4.5 10.2 Buildings Riverside 4.8 12.1 Small Availability Rate, % Big Minneapolis 7.0 11.4 16 Denver 8.2 12.7 14 Chicago 12.5 15.4 12 Atlanta 15.1 18.1 10 Nation 12.5 13.7 8 Source: CBRE Econometric Advisors. 6 4 As the economy continues to recover and the industrial recovery spreads, 2012 will see more of these spot shortages 2 2000.1 2000.3 2001.1 2001.3 2002.1 2002.3 2003.1 2003.3 2004.1 2004.3 2005.1 2005.3 2006.1 2006.3 2007.1 2007.3 2008.1 2008.3 2009.1 2009.3 2010.1 2010.3 2011.1 2011.3 show up, as rents still are too low to justify substantial new construction. In Atlanta, where the recovery has been slower Source: CBRE Econometric Advisors. than the nation’s, and where there currently isn’t a shortage of any type or size of space, the large building segment isRecord-high construction of large buildings during the early now showing signs of strength. The large building segmentstages of the recession, combined with weakening demand in Atlanta has seen availability rates fall 330 bps from theiras the economy soured, led to a rapid rise in the availability recessionary peaks, compared to a decline of 140 bps for January 2012 Page 11 © 2012, CBRE, Inc.
  12. 12. Special Report: 12 Trends for 2012 the market overall. Similar trends are starting to show in factor in boosting the demand recovery in its early phase Dallas, where a massive large-building boom that lasted was that room rates fell to historically low rates during through the early parts of the recession pushed availability the downturn; ADRs remaining low well beyond the start rates of large buildings above 22%, while the market as a of the demand recovery has only compounded the effect. whole registered 17.1%. Since the recession has ended, Though the hotel recovery has remained resilient, growth however, the availability rate has fallen much faster for the has diminished a bit and factors will arise in the coming large building segment, with its current availability rate now quarters to diminish growth even further. comparable to the market’s overall 15.3% rate. Robust Demand Recovery Underway Demand Growth (R) Looking to 2012, as the economy continues to steadily 4 Qtr. Moving Avg. Demand recover and hopefully even to accelerate, it is clear that we SF x 1000 Demand Growth, YoY (%) will start to see increased spot shortages—particularly of 1500 15 the largest industrial assets. The economy-of-scale benefits 1400 10 expected from building super-large assets have historically 1300 been constrained by the technological difficulties of heating 5 1200 and cooling those assets, such that taking advantage of 0 their immense size in a cost effective way has been difficult. 1100 -5 However, recent technological improvements have allowed 1000 for more of these buildings to be built and for occupiers to 900 -10 benefit from their scale. Larger buildings that are now cost 800 -15 effective to run and manage will lead to more consolidation 1988.1 1989.1 1990.1 1991.1 1992.1 1993.1 1994.1 1995.1 1996.1 1997.1 1998.1 1999.1 2000.1 2001.1 2002.1 2003.1 2004.1 2005.1 2006.1 2007.1 2008.1 2009.1 2010.1 2011.1 2012.1 2013.1 2014.1 among firms that currently use several smaller facilities. Source: CBRE Econometric Advisors. And with supply chains increasingly dependent on cheap and reliable transportation systems, recent rail investments also have the potential to encourage firms to consolidate The rapid recovery in demand for hotel rooms, which multiple facilities into a single one located near a strong began as early as mid-2009, was historic. Reaching intermodal network, reducing the high costs associated growth rates of 10% on a year-over-year basis, the rate with truck shipments. With minimal new construction of rebound well surpassed the recovery that followed the and fewer buildings available to be leased up, in 2012 2001 recession, despite the fact that the demand declines this consolidating trend will have only shortages of large during this recession were slightly less severe than in 2001. buildings to constrain it. Since that historic 10% growth, the demand growth rate has decelerated consistently and currently reads around 5%. The pattern is similar to what we witnessed following the demand spike in 2004, when the pace of demand growth TREND #6 fell consistently until 2006, even declining for a couple of HOTEL ROOM DEMAND GROWTH quarters before stabilizing at around 0.5% in 2007. The WILL SLOW more recent sharp improvement in hotel room demand Overseas Slowdown will Contribute helped us achieve expansion by the end of 2010. Demand growth will likely stabilize in the coming quarters. This hotel recovery has been one for the record books. After a near-halting of business and leisure travel during During the recent hotel recovery, the boost in demand has the recession brought a significant decline in demand for come from international, rather than domestic, travelers. rooms in 2008 and 2009, the hotel industry has witnessed Just as demand growth was reaching 10%, international dramatic demand improvement since the economy has tourism growth was achieving nearly the same growth begun to show signs of recovery. A rapid increase in figures, while domestic travel remained much lower. international tourism helped to fuel the demand recovery in International travelers were most likely taking advantage the U.S., but as global unbalance has plagued travelers in of the low room rates, but rates have risen since then recent months, international tourism has dropped. Another and the global crisis is creating international tourism January 2012 Page 12 © 2012, CBRE, Inc.12