Archives for October 2023

The former home of Macaroni Grill has found a new tenant.

Fidelity Investments, a financial services firm, will take over the out-parcel site at 2100 Louisiana Blvd. NE. in the Winrock Town Center. The restaurant was torn down this past summer after sitting vacant for years following a fire in 2019. The new building will measure in at 8,000 square feet and is being constructed by Hart Construction and Modulus Architects.

Construction began in June and is expected to be completed in Q1 2024. Goodman Realty Group, who owns the property, did not disclose the tenant but a recent LoopNet listing shows Fidelity as the tenant and details the terms of its 10-year lease. The listing, by Faris Lee Investments, advertises the opportunity to acquire the fee simple interest on the new tenant property, occupied by Fidelity.

When asked about the location, a Fidelity representative provided the following statement to Albuquerque Business First:

“For more than 15 years, Fidelity has been proud to serve the Albuquerque community at our local Investor Center. While we have nothing to announce currently, we are committed to continually evolving how we serve clients in the area to best meet their needs. We are always evaluating our real estate portfolio based on several factors such as lease expirations and the flexibility of existing space along with future business needs.”

The firm currently has one location in New Mexico at 2261 Q St. NE, according to its website, along with a corporate headquarters at 5401 Watson Drive SE, in Mesa del Sol.

Source: “Former home of Macaroni Grill finds new tenant“

The commercial real estate market is wobbling, and market veteran Ed Yardeni thinks it will help get the central bank to stop hiking rates.

Bond yields have jumped in recent months, making the cost of borrowing money far more expensive than businesses have been used to. That isn’t helping a commercial real estate market already plagued by office vacancies, heavy refinancing needs, and a credit squeeze after the March bank failures.

“There’s going to be a lot of things breaking in the commercial real estate market,” Yardeni, president of Yardeni Research, told Bloomberg TV on Friday. “I think it’s one of the reasons the Fed is probably done raising interest rates because they realize the bond market has been recently doing all the heavy lifting in monetary policy.”

Indeed, several Fed officials have expressed a similar view in recent weeks, raising expectations that the central bank will keep rates steady at its policy meeting next month.

Yields on the 10-year Treasury recently hit a 16-year high and are currently sitting at 4.68%, after touching 4.9% earlier this month.

“With the bond yield up close to 5%, that’s a disaster for all the commercial real estate deals that have to be refinanced, or the value of commercial real estate.”

The commercial real estate sector has been in a prolonged rut, unable to shake off the suppressed demand since the pandemic as work-from-home policies remain. Across the country, office loan delinquency rates have been rising while higher rates have been battering US companies that now face larger costs to refinance any debt.

But while the current malaise in the industry reminds Yardeni of an earlier crash, he remains staunchly in the “soft landing” camp.

“Those things are going to break, very reminiscent of what happened in the early 1990s when we had the [savings and loan] crisis,” Yardeni said. “A lot of things broke in the commercial real estate market. We did have a recession back then but it was really mild.”

Source: “Commercial real estate will see ‘a lot of things breaking’ and is one of the reasons the Fed will stop raising rates, market veteran say“

After proliferating largely in other parts of the world, multistory warehouses are beginning to rise in the United States.

Nationally, there were 62.8 million square feet of warehouses with three or more stories in the U.S., as of August, with another 11.9 million square feet underway and 23 million in planning stages, according to Colliers International Inc. (Nasdaq: CIGI) research.

Notably, 74% of that pipeline and existing inventory is occupied by Amazon.com Inc. (Nasdaq: AMZN), the dominant player in industrial real estate, despite its pullback since the height of the Covid-19 pandemic.

But the cost to develop multistory warehouses continues to be higher than a more traditional industrial box, one reason why taller warehouses are likely to remain a fairly niche part of the market and concentrate in the nation’s densest cities, said Leslie Lanne, vice chairman at Jones Lang LaSalle Inc. (NYSE: JLL).

“We do think it’s going to continue to be a trend, and something we’re going to see, and more are planned in many of these (denser) markets because there continues to be a need for occupier clients,” she said.

JLL recently examined multistory warehouses in the U.S., as the nation is in its fifth year of building multilevel logistics facilities. The first U.S. multistory warehouse opened in 2018 in Seattle.

Today, notable multistory warehouse projects include several in New York, where urban-logistics projects under construction and in planning would add 9.4 million square feet of additional last-mile logistics space, according to JLL.

Those include the 385,510-square-foot Red Hook Logistics Center in Brooklyn and the Borden Complex, which totals 680,000 square feet, in Long Island City.

Lanne said the multistory warehouses being built in the U.S. today are past the point of “version 1.0” of five years ago, which tended to be larger projects, including some 1 million square feet or larger.

“People are looking at smaller parcels and then designing there, which is cool, because it gives occupier clients a little bit more variety,” she continued.

At the Red Hook project, for example, there’s an ability to subdivide the space by floor, so tenants that need 40,000 square feet or 80,000 square feet of industrial space in a dense urban market could lease space there, Lanne said.

Most of the urban multistory warehouse tenant demand is coming from groups needing last-mile delivery space, although, she said, there’s also a lot of interest from food-and-beverage groups in occupying that kind of space.

Still, while the multistory warehouse trend has gained traction in the five years it’s been in the United States, it’s not likely to become a mainstream part of the industrial market.

For one, these facilities are more expensive to build — and may require specific, costlier infrastructure like underground parking, Lanne said. There are also zoning constraints to getting a multistory warehouse project approved, not unlike more traditional single-story industrial facilities.

Another hurdle is the standard truck size in the United States, where 40-foot trucks are common, compared to 25-foot trucks in other parts of the world, according to Colliers. Smaller trucks make navigating a more compact warehouse footprint easier.

Markets like Chicago, the Greater San Francisco area and certain pockets of Los Angeles — places where population and congestion meet — are the kinds of regions that could see more multistory warehouses proliferate, Lanne said.

As Colliers noted in its report, many markets seeing multistory warehouse construction are also ones that’ve been able to push rents significantly higher in recent years, which could help offset the additional cost of building taller, more complex facilities.

Source: “Why some cities are likely to see taller warehouse projects — and the role Amazon is playing“

For me, this is the biggest surprise of the U.S. apartment market in 2023: The surge in apartment construction is softening the Class B market more than any other asset class. In high-supply submarkets, Class B rents fell more than twice as much as Class A over the past year. Yet in submarkets with no new supply, Class B performed right in line with Class A.

It’s all about supply. The more supply in a submarket, the more likely rents are falling in ALL asset classes. But surprisingly, the biggest impact is to Class B, according to RealPage data.

In submarkets expanding their apartment count by more than 10% over the year-ending September 2023, effective rents in Class B fell 3.7%. By comparison, rents in those areas dropped 1.5% in Class A and 0.8% in Class C. And in submarkets expanding their supply by 5-10%, rents fell 2% in Class B compared to 0.6% in Class A and 1.5% in Class C.

As examples: Class B rents fell 7.9% over the last year in Downtown Salt Lake City, 7.1% in Cedar Park (Austin), 6.7% in Avondale/Goodyear (Phoenix) and 4.2% in Downtown Seattle.

Digging into this a lot in recent weeks, here’s what I think is happening:

1)  The Narrowing Rent Gap

In these high-supplied submarkets, we’ve seen rapid rent compression between new construction and Class B – in part due to hefty lease-up concessions. That makes it easier for Class B renters to move up into new units.

In the highest-supplied submarkets (defined as those with more than 10% inventory growth), there’s only an 8% gap in average rents between new construction and Class B. In areas with 5-10% expansion, the gap is 12%. Deeper concessions can further narrow the gaps.

By comparison, in areas with little or no new supply, the rent gap is 23% – making move-ups much more expensive and harder to erase with concessions.

And remember: Most of the 2023 lease-up pro formas were written prior to 2022 rent growth, while Class Bs continued to grow rents. That makes the two groups more competitive.

2)  Move-Ups from Class B to Class A

Typically, Class B retains a higher occupancy rate than Class A. And that’s still true, on average, nationally.

But it’s a different story in these high-supply submarkets, which further highlights the impact of move-ups and in turn, likely triggers Class B rent cuts. In those high-supplied submarkets with at least 5% inventory expansion, Class B is just 93.6% occupied. Compare that to no-supply submarkets (which we’re defining as less than 1% inventory growth), where Class B occupancy tops the national average at nearly 95%.

Meanwhile, Class C occupancy remains higher than both Class A and Class B regardless of submarket supply levels – showing that it’s not simply a “flight-to-quality” story, although we’d expect more move-ups from C’s to B’s in coming months as a domino effect.

RealPage’s asset classification is an algorithmic model based on normalized rent levels, adjusting for differences in unit sizes and floorplans, relative to each metro area. The distribution between Class A, B and C is roughly 20/40/40 in each market, though it can vary significantly by submarket.

Other asset classification methods may result in different conclusions, but the point here is that regardless of methodology, the top 50-60% of assets based on price are impacted by lease-ups in high-supply areas.

3)  Pent-Up Demand for Newer Units

The median rent-to-income ratio in Class B is around 23%. So, for renters below that median, there’s likely some pent-up demand among higher-income households for nicer, newer apartments. They can afford to move up but didn’t due to lack of options or unattractive pricing.

Rent erosion and concessions in new construction now makes that jump much more attractive for those able to afford it.

Usually, renters signing a lease with concessions (i.e. “two months free”) still must have income levels that qualify them for the full rent value. So, this isn’t necessarily about making Class A more affordable, and more about making Class A more enticing to those who could already afford it.

Faster-than-expected filtering

I was wrong about this in our initial outlook for 2023. At the time, our thought process was that Class B was fairly insulated (though not completely insulated) from new supply given (at the time) a 28% average rent discount for Class B versus a new lease-up. That amounts to a concession of more than “three months free.”

Longer term, we did expect “filtering” to play out – which occurs when new supply draws in renters from lower-priced housing and, in turn, opens up availability for middle incomes. I just didn’t think it’d happen this fast.

For Class B operators, this is an unpleasant surprise turn. “Flight to quality” is playing out more than it did in past cycles among mid- and upper-income renters.

For renters, it’s more evidence that the balance of power has shifted back to renters.

And for policymakers, it’s a powerful sign that if you truly care about housing affordability and access, it starts by legalizing and approving A LOT more housing.

Will move-up renters get priced out when concessions burn off?

This question comes up a lot. Are concession hoppers priced out when concessions burn off after the initial lease period? Probably not, BUT it’s also not that simple.

As noted earlier, renters usually must qualify for the non-concessed full rent value before signing a lease. So, in theory, most of these renters can afford to rent even after the concessions burn off. But will they? Many probably won’t. Not because they can’t afford it, but because there’s an even larger wave of new lease-ups hitting the market next year, so there’ll likely be even MORE concessions out there luring “concession hoppers” to move around – especially in dense urban neighborhoods with lots of new apartments within walking distance.

For that reason, many property managers will learn the hard way that concessions rarely just “burn off” in reality as they do in theory. For renters who signed with “two months free,” concession burn off amounts to an effective rent increase of nearly 17%. For “three months free,” that’s 25%. Property managers go to great lengths to ensure renters understand how concessions work; but at the end of the day, concession burn off is still a rent increase.

And for renters now conditioned to chase discounts, how many are going to just willingly accept the full rent value? It’ll be even harder if that property is still offering concessions or if nearby properties are doing the same.

So even for renters renewing their lease, many probably won’t end up paying the full rent value.

What happens to Class B in 2024?

New supply is scheduled to hit the highest levels since the mid-1980s here in 2023, then surge even higher in 2024 – which will be the peak year for completions before the numbers drop off in 2025-26.

That means market conditions won’t meaningfully change next year. It’ll likely just get tougher for property managers, and more favorable for renters.

But there are a few differences. As one executive shared with me recently, 2023 lease-ups were underwritten prior to the 2022 rent hikes, whereas 2024 lease-ups probably came later. So, the next wave of lease-ups will likely have meaningfully higher pro forma rents, which in turn makes it much harder to bring rents closer in line with Class B when they have higher targets to meet. Additionally, there’s a question of how much pent-up demand remains from higher-income Class B renters.

And there’s another key factor for Class B’s outlook: The next step in filtering is to pull up Class C renters into the newly vacated Class B units. We’ll likely see more of that in coming months.

Source: “Here’s the Most Unexpected Twist of the Apartment Sector in 2023“