22 Aug Where are we in the economic recovery cycle and how does that affect real estate investment?
Here’s the big answer: nobody knows. But here is what we do know:
- The economy has grown on average 2% annually since 2009 (over 20%).
- Consumer default rates have come down and remained at historically low averages.
- Vacancy rates have fallen, and in most markets have reached historic lows.
- Industrial construction rates remain below the absorption rate. Even speculative projects are getting absorbed prior to delivery as demand remains strong and supply limited.
- Lease asking rates have increased 10-20% over the last year in most markets.
- Construction costs have begun increasing at 10-15% annually in late 2016.
- Existing entitled land stock is at an all-time low.
- Land values in Northern California markets have been increasing by 15% annually over the last 3 years.
That’s not a bad list of facts. At worst, it’s a mixed market; more likely, it’s gaining strength.
Signs of strength in the industrial real estate market
At INNOVA, we’re always looking closely at default rates, savings rates, first-time home buyers, household formation, new car sales, sales of major retailers and even vacation rates and prices – areas that could hint at cracks in the foundation of the economy. Consumer spending is important because it represents the largest part of GDP. So far, we are not seeing any cracks there. In fact, we’ve noticed that places like Disneyland, restaurants, and the movie theaters seem more packed than ever.
The Federal Reserve’s accommodative monetary policy has kept interest rates near all-time lows and sent the stock market to all-time highs. No doubt, easy credit caused the Great Recession, while cheap credit has fueled the recovery. For the last few years, corporate earnings have risen faster than productivity, something you’d expect from profits driven by cheaper money rather than increased production. But that trend reversed recently. The Bureau of Labor Statistics reported that year over year productivity gains from Q1 2016 to Q1 2017 were 2.5%. In Q1 2017, the annualized average was 1.7%.
Growing pains
After such a deep and painful recession, INNOVA clients were slow to add staff or expand facilities, because they didn’t want to get caught “over their skis.” Today, our clients complain they can’t find enough qualified employees to meet demand and their existing real estate can’t accommodate their growing business. Our partners in banking, title, construction, and property services are also feeling the labor squeeze, which is made worse by increased demand for their services. Cheap money is no longer the driving force in the economy.
Where do we see risks and how do we mitigate them?
At INNOVA, we believe that industrial real estate is back to a strong place of fundamentals in risk management:
- Entitlement
- Development
- Lease Up
- Asset Management
Risks are mitigated through disciplined site selection, sound underwriting and prudent development and management, the “blocking and tackling” of real estate investment.
Keep in mind that like every recovery before it, this one will end. When it does, the question of “when” will it end becomes less important than “who” you are partnered with through it. INNOVA continually monitors the economy and market for signs of weakness. So far, so good.
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Here’s some further reading and references:
https://www.cpexecutive.com/post/economy-watch-fitch-report-optimistic-about-cre/
https://www.federalreserve.gov/releases/chargeoff/delallsa.htm