Slowing economic growth reflected in property fundamentals

The U.S. economy appears to be slowing, given the deceleration of GDP growth in the third quarter, but despite the potential warning signs, a recession is unlikely in 2019, according to the REIS Quarterly Briefing webinar for third quarter 2019, which looked at property fundamentals in the third quarter, and also offered forecasts for real estate and economic performance in the coming year.

“We are at a downward trend for GDP growth,” said Victor Calanog, head of CRE economics at REIS. The third quarter had GDP growth of 1.9 percent, on an annual basis, down from 2.0 percent in the second quarter and 3.1 percent in the first quarter.

Calanog identified three hot topics for real estate: the impact of WeWork on the office market; the impact of rent control on the apartment market; and the impact of negative interest rates on capital markets.

Apartment vacancies have been flat all year, said Calanog. The sector had a vacancy rate of 4.7 percent in the third quarter, unchanged from the previous two quarters. Effective rent growth has slowed, and a number of deliveries are expected by year-end, which could mean inventory growth in the fourth quarter.

The office sector had a vacancy rate of 16.8 percent in the third quarter, unchanged from the previous quarter, and the forecast is for “continuing sluggishness” in the coming years. The office sector faces secular trends that are weighing down on performance. Calanog highlighted the shrinking square footage allocated to workers — from an average of 236 square feet per employee in the 1980s to an average of 124 square feet per employee in 2013–2018.

Community and neighborhood shopping centers had a vacancy rate of 10.1 percent in the third quarter, while regional malls had a vacancy rate of 9.4 percent. That mall vacancy rate can be a bit deceptive, as it hides the wide variation between the strongest malls and the rest of the market. When the properties held by top-tier mall operators Simon Property Group and Brookfield’s General Growth Properties are excluded, regional mall vacancy climbs to nearly 12 percent, said Calanog.

The industrial market had a bifurcation, as flex/R&D properties saw vacancy rates fall to 9.7 percent, while warehouse/distribution properties saw vacancy rates rise to 9.8 percent. The warehouse segment is seeing “relative weakness” from the ongoing trade war, and Calanog said investors should expect industrial fundamentals to continue to diverge in the near term.

Looking at the economy broadly, there are continuing uncertainties regarding the “variable policy environment.” In addition, the upcoming election in 2020 is causing some “wait-and-see” attitudes, which is acting as a drag on investment. But while business investment is seeing some declines, the labor market is still creating jobs.

The bottom-line message from Calanog was: “We’re concerned but not worried — yet.”