Commercial real estate news & reports – COVID-19 Southern California real estate implications

The purpose of this article is to share with my clients news and resources I’m currently reviewing to stay abreast of the current market. Below I’ve provided a summarized version of each resource along with a link to the full article/reports from JLL and Marcus & Millichap along with charts from CoStar research. For more information, rental rates, renovations, leasing, valuations and more give me a call at 858-252-8082 or 310-900-9505 and email at eric@vonbluecher.com. 

 

Report from JLL – COVID-19: Global Real Estate Implications – link to report here. Key quoted excerpts from the report below:

  • “while the current consensus is for a rebound in the global economy in H2 2020, the exact trajectory is unknowable. We therefore suggest a scenario planning approach, rather than betting on any bold predictions, with a focus on preparedness for either a mild to moderate slowdown that is transitory in nature or for a more severe and sustained slowdown.”
  • “There is a wealth of information (and misinformation) to be consumed on a daily basis and, in such a fluid situation, the facts and consequences are changing quickly.  While individuals and businesses remain focused on health and well-being, this paper will highlight the potential implications for real estate. “
  • “At the time of writing, the consensus forecast is for a sharp shock to the global economy in the first half of 2020, followed by a bounce-back – reminiscent of the recovery after the SARS outbreak in 2003. “
  • “Disruption has already started in sectors such as automotive, aviation, chemicals and consumer goods, and the full effects have yet to filter through. “
  • “Many central banks possess limited ammunition, but further rate cuts and quantitative easing, targeted liquidity support, and macroprudential forbearance will provide some cushioning to the slowdown. ” (What is quantitive easing? Click here for more info)
  • “Business operations may be hit, and consideration should be given to changing or closing operations in affected areas and transferring business to new geographies or knowledge to key employees.”
  • “Supply chain disruption should be anticipated and counteracted…Manufacturing facilities may face immediate and lasting interruption, as will product distribution channels.”
  • “Social and professional ‘distancing’, absenteeism and illness are likely to cause disruption and present a potential impediment to operations and sales.”
  • “In the longer term, ‘building health’ (including building ventilation, air filtration, and cleaning) and facilities / management preparedness will all become increasingly important.”
  • “Deploying new technologies and solutions (e.g. PropTech and MedTech) to control the level of infections of employees will require capital investment.  Not all investment will be recoverable, but this will leave a legacy of improved and more robust operational measures and systems.”
  • “Investment activity is likely to slow in H1 2020 as investors react to uncertainty, with the retail and hospitality sectors being the most affected.  A shift to defensive assets is expected – key considerations as major arbiters of risk include income stability, operation criticality and occupation density.”
  • “Real estate investment has fluctuated during previous crises, but the overarching trend over time has been for increased allocations to the sector and we see no reason for this to change.  Real estate continues to offer attractive relative returns in comparison to other asset classes.”
  • “Over the short term, particularly in H1 2020, investment activity in global commercial real estate is expected to slow.  Investors will apply more due diligence and will experience a lower practical ability to execute transactions.”
  • “Hospitality, retail and leisure have seen the sharpest decline in sentiment and impact on operating performance.  Cross-border activity is also anticipated to be particularly hard hit, especially in those cities targeted by outbound Asian capital.”
  • “Interest rate volatility is impacting lenders who remain in a phase of ‘price discovery’, particularly in the U.S. The marketplace is more turbulent now and lenders are struggling to price assets”
  • “As there is a lack of comprehensive data on the effect of COVID-19 on fundamentals, investors should look to a few key considerations as major arbiters of asset-level risk in the short term:
    • Income stability: The less variable the contractual income, the less risk.  This favours the living sectors and office assets with credit tenancies and strong remaining terms.
    • Operation criticality: The more important the facility and tenancy to revenue and business operations, the lower the risk.  This favours data centres and critical logistics assets. 
    • Occupation density: The higher the density of occupants, the higher the operational risk of contagion. This creates short-term risk for hotels, retail, select living assets and flex-office operators.”
     
  • “If the virus is contained in relatively short order, a bounce-back in H2 2020 is anticipated in global real estate investment.  There is a record level of dry powder (US$330 billion) and pressure to deploy capital, and this will ensure that investor appetite stays strong.  Once the situation stabilizes, and investors have greater clarity, pent-up demand is expected to be released in the second half of the year. “
  • “Real estate continues to offer good relative returns in comparison to other asset classes and we have witnessed increased volatility in the equities and commodities markets.”
  • “The living sectors, particularly multifamily, tend to have more defensive characteristics, benefitting from stable income streams and the ability to actively maintain rents to limit void periods.  Demand is also relatively resilient to external shocks.”
  • “From an investor perspective, the living sectors have defensive investment characteristics, benefitting from stable cash flows and the ability to actively manage rents in order to maintain occupancy and limit void potential.  Demand is typically resilient to economic shocks and is fundamentally supported by the un-affordability of home ownership, urbanisation and increased interest in more flexible-living solutions.  However, diminishing consumer confidence and reduced mobility will impact demand during this period of uncertainty.”
  • “Multifamily, as an asset class, will remain resilient to the effects of the COVID-19 outbreak with its more stable, longer-term income profile and defensive investment characteristics. Where new housing supply is supported by investor purchases, there will be near-term demand uncertainty for locations that rely on international sales. Technology is an important mitigator and plans for new online transaction platforms will be accelerated in 2020.”

 

Marcus & Millichap Report– CORONAVIRUS OUTBREAK: IMPLICATIONS FOR REAL ESTATE – Click Here for Report and highlighted quoted summary below:

  • “Interest Rates Hit All-Time Low as Spread of Coronavirus Sparks Flight to Safety; Stability and Yield of Real Estate Reiterated by Stock Market Volatility”
  • “Stock market volatility showcases real estate stability and yields. While the stock market was particularly robust last year, with the S&P 500 delivering total returns exceeding 25 percent, equities recorded a major correction that erased a significant portion of the gains. In the ensuing flight to safety, long-term Treasury rates dropped to a record low, offering real estate investors an exceptionally low cost of capital and some of the highest levered returns in 30 years. Strong capital market liquidity and sound underlying real estate space demand remain pillars of support for commercial real estate.
  • “Investors, focusing on the downside risk potential of the outbreak, drove significant capital to the safety of the bond market, pushing the 10-year Treasury rate to an all-time low while driving the S&P 500 down by 11.5 percent in the last week of February, the largest one-week stock market drop since the financial crisis.”
  • “While the coronavirus will weigh on the U.S. economy in the first quarter, a recession is not imminent…low unemployment and comparatively strong consumption levels should offset the headwinds unless the outbreak amplifies significantly or confidence levels drop dramatically.
  • “Although Wall Street already expected a 50-basis-point cut at the Fed’s March 17 meeting, the Fed adjustment sparked an additional decline in the 10-year Treasury rate.”

Chart Credit: Marcus and Millichap

 

  • “Investor fears, fueled by the limited insights available from leading health organizations as the new virus spread, continue to weigh on the market.”
  • “As clarity emerges and actions are taken to mitigate the risks from the virus, financial markets will likely begin to stabilize…Past pandemic events such as the swine flu, the bird flu and SARS also generated short- term market volatility that stabilized within 90-180 days on average.”
  • “Sound fundamentals support steady performance. Real estate supply and demand generally remain in balance, supporting stable occupancy levels and a steady outlook. Assuming a worst-case pandemic scenario is avoided, the pace of job creation and economic growth will likely taper but remain positive. This will sustain real estate fundamentals over the course of the year, delivering a relatively solid outlook.”
  • “The steep decline of interest rates to unheard of levels will support refinance and acquisition activity. Though many lenders have widened their spreads over the risk-free rates, investors have been able to lock in debt in the 3 percent range depending on the borrower’s credit, asset quality, location, etc. The reduced cost of capital has not translated to higher property valuations or lower cap rates as many sellers hoped because the new coronavirus does create additional uncertainty for many buyers.”
  • “Barring a major economic disruption, commercial real estate yields and investment activity should remain stable. Potential coronavirus-related disruptions to the economy and investment market would likely stem from public policies discouraging or re- stricting travel and public events. In addition, a major sustained drop in business and consumer confidence in reaction to the wave of negative headlines could potentially restrain spending and spark an economic slowdown. The other substantive risk factor stems from financial and stock market volatility, which, if severe enough, could undermine confidence levels. Despite these downside risks, baseline forecasts still point to slower but positive economic growth that will sustain the expansion cycle and the underlying demand for real estate.”

Credit: Marcus & Millichap

 

  • “Apartments: The apartment market will continue to deliver favorable perfor- mance as housing demand outpaces new supply. The coronavirus will have little direct impact on the demand for housing over the short term. Vacancy rates ended 2019 at 4.2 percent and are ex- pected to rise modestly in 2020 as the market digests the addition of 300,000 new Class A units. Class B and C apartments, with va- cancy rates near historic record-low levels, will continue to deliver strong results.”

Credit: Marcus & Millichap

Credit: Marcus & Millichap

Regional Market Climate for Southern California Multifamily Real Estate investments; Charts courtesy of CoStar.

Submarket Climate for Los Angeles Multifamily Real Estate Investments

Los Angeles Multifamily Months to Sale

Los Angeles Multifamily Sales Volume & Price Per Unit

Los Angeles Multifamily Sale to Asking Price Differential

Los Angeles Multifamily Cap Rates

Submarket Climate for San Diego Multifamily Real Estate Investments

San Diego Multifamily Months to Sale

San Diego Multifamily Sales Volume & Price Per Unit

San Diego Multifamily Sale to Asking Price Differential

San Diego Multifamily Cap Rates



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