Southern California Industrial Real Estate Blog

MODEST RISE SEEN IN SECOND QUARTER 2006

MODEST RISE SEEN IN SECOND QUARTER 2006
BY SIOR COMMERCIAL REAL ESTATE INDEX
(focusing on the industrial and office property markets)
 

The SIOR Commercial Real Estate Index showed modest improvement with an increase of 0.30 points over February’s index as reported in the May 2006 release from the Society of Industrial and Office Realtors^® ( www.sior.com).  The national industrial and office property market index advanced to 119.70, compared with 119.40 in February 2006 and 115.75 in November 2005. This is good news for owners of industrial and office property. An Index Value of 100 reflects well-balanced commercial real estate conditions. Values greater than 100 represent strong market conditions favoring existing owners, as landlords and as sellers of properties. Values below 100 indicate favorable negotiating conditions for tenants and for those looking to acquire real estate.

The SIOR index, compiled from survey responses from more than 300 SIOR Industrial and Office Real Estate Brokers in late April/early May, is a diffusion index, calculated by methods similar to the Index of Leading Indicators, the Consumer Confidence Index, and the Purchasing Managers Index. Details on the methodology can be found at the end of this release. Hugh F. Kelly, CRE, a nationally recognized real estate economist and professor at New York University, has been retained by SIOR to calculate and interpret the Index.

Subindexes are also extracted from the survey data, showing trends for industrial and office properties, taken separately, as well as for four U. S. geographic subdivisions – the Northeast, Midwest, South, and West.

Industrial properties such as warehouses and distribution centers are further along than office in their cyclical recovery. The industrial subindex registered 122.24 in the Second Quarter, up modestly from its 121.69 score in the First Quarter. Industrials achieved very strong scores in improving occupancy and in the virtual disappearance of subleasing activity as a drag on market performance. In addition, rental rates have risen materially in two-thirds of the nation’s industrial markets, compared to one year ago. Tenants find sufficient bargaining strength to extract leasing concessions in just 30% of the markets responding. Development is reaching nearly normal levels, and owners of prime land see strong acquisition demand. Economic trends, however, are the subject of some concern as questions about the effect of both local and national economic conditions on industrial market trends returned lower scores than in the previous quarter.
The Office subindex rose 1.96 points since February, and now stands at 117.41. The Office Market is experiencing broad-based rental rate increases, driven by occupancy gains reported by just over 70% of the survey panel. Investment pricing is strong – at or above replacement cost as indicated by 79% of the respondents. Development is still lagging, however, and this presages further improvement in vacancy rates for the year ahead. Subleasing has minimal impact on offices right now, but tenants still have some bargaining power to negotiate lease concessions in about half the markets covered. In trying to capture this opportunity while it lasts, tenants have brought leasing activity to normal or higher-than-normal levels reported by the survey panelists.

Regionally, the West remains at the top of the list of market areas, with a subindex score of 136.07. Respondents from this region cite the pressure of their thriving economy on commercial real estate markets. Rental rates are rising rapidly, as demand for space is outstripping new supply. Development has not yet returned to its “normal” level, though builders are avidly searching for new commercially zoned land. The super-heated housing market of recent years has diverted many potential commercial locations into residential use. With the exception of development, the West scores the highest of all regions on the full range of variables covered in the SIOR survey.
The South scored 123.35, evincing considerable strength. Parts of the region are still adapting to the changes wrought by the hurricanes of 2005. Louisiana and Mississippi are dealing with population dislocations and the rebuilding of businesses. But markets with close ties to the energy industry are seeing tremendous commercial space demand. While the South does not match the West’s extreme high scores for many of the index components, it does well throughout the entire list of variables. It is the region that is getting closest to its historical average in commercial development, and is virtually at the “normal” score in terms of the balance of negotiating power between landlords and tenants. However, the sprawling markets typical of this region have received less benefit in investment price than the other three geographic divisions.
Scarcity is beginning to drive market behaviors in the Northeast, which registered a regional score of 114.78 in the May survey. It is a sellers’ market for commercial development land, even though builders are not yet rushing to market with speculative projects. As in the South, landlord/tenant bargaining power is showing good balance. Rental and vacancy trends, and subleasing conditions, all post positive responses in the Northeast tallies. Financial industry and government growth, as well as globalization in all its manifestations, have been the demand catalysts in this region. However, respondents do note that investment pricing is still “out ahead” of rent and occupancy improvements, as capitalization rates remain very low. The relatively high costs here may account for a comparatively low pace of overall leasing activity, as several respondents see “more lookers than takers” of commercial space.
The troubled automobile industry and its network of supplier and services firms have been the long-time economic engine of the Midwest. This economic base cannot support much new commercial real estate demand at present, and this is at the root of the region’s sub-par score of 97.11 in the May survey. While some improvement in conventional measures such as asking rents and overall occupancy can be seen in the numbers, leasing activity here is by far the weakest of any region, and 77% of the respondents identify the tenants as holding the dominant position at the bargaining table. Tellingly, the Midwest is the only region where the impact of the local economy is rated as hurting rather than helping the real estate markets.
METHODOLOGY
The SIOR Commercial Real Estate Index is constructed as a “diffusion index,” a very common and familiar indexing technique for economic measures. Other examples of diffusion indexes include the Index of Leading Economic Indicators, the Consumer Confidence Index, and the Institute of Supply Management’s Purchasing Managers’ Index. In the SIOR Commercial Real Estate Index, a value of 100 represents a well-balanced market for industrial and office property. Values significantly lower than 100 indicate weak market conditions; values significantly higher than 100 measure strong market conditions. The theoretical limits of this Index are a low of zero, and a high of 200, though it is unlikely that such limits would be approached as long as the property markets are operating efficiently.
The Index is based on a survey questionnaire with ten topics. The topics covered are (1) recent leasing activity; (2) trends in asking rents; (3) trends in vacancy rates; (4) subleasing conditions; (5) levels of concession packages in leases; (6) development activity; (7) site acquisition activity; (8) investment pricing levels; (9) the impact of the local economy on the property market; and, (10) the effect of the national economy on the property market. Survey respondents are given five choices. For each topic, five choices are provided, corresponding to conditions that are very weak, moderately weak, well-balanced, moderately strong, or very strong.
For each question, answers are tallied and the percentage of responses for each of the five choices is calculated. If survey panelists indicate “very weak” conditions (the “a” choices in the questionnaire), the answer is assigned 0 (zero) points; “moderately weak” (“b” answers) earn 5 points; an indication of “market balance” (“c”) receives 10 points; “moderately strong” indications (“d”) score 15 points; and “very strong” (“e”) responses receive a maximum 20 points. Thus a score of 10 for a given question can be earned if responses are evenly distributed across all five choices, if all responses were “c”, or if the answers form a “bell-shaped curve” centered around the “c” choice. The total index value is derived by summing the scores for all ten questions. Index values for each of the two property types are similarly calculated.
The survey was developed and results analyzed by Hugh F. Kelly, CRE, clinical professor at New York University, who has worked with SIOR on research projects since 1989.
Headquartered in Washington, DC, the Society of Industrial and Office Realtors (SIOR, www.sior.com) is a global professional organization that certifies commercial real estate service providers with the exclusive SIOR designation. Individuals who earn their SIOR adhere to the highest levels of accountability and ethical standards.

Only the industry’s top professionals qualify for the SIOR. Today, there are more than 2,500 SIORs in 480 markets in 20 countries

Group Acquires 3-Warehouse Site on Hyperion Avenue

Group Acquires 3-Warenouse Site on Hyperion AvenueThe entity 2000 Hyperion Associates LLC purchased a group of three industrial warehouse buildings totaling 14,110 square feet at 1928 - 2012 Hyperion Ave. in Los Angeles for $3.6 million, or about $255 per square foot.

The three one-story buildings had been used for multiple purposes: a movie set warehouse, a church and an auto body repair shop. Jr. Auto Body Shop Inc. will continue to occupy the building at 1932 Hyperion Ave. In a creative use of space, the buyer, doing business as Roschen Van Cleve Architects, will convert the other two building to office space. It will occupy all of 2012 Hyperion and half of 2000 Hyperion, leasing the remaining space to other architects.
 

By Peggy Standley

2006 is a mixed bag for real estate trends

2006 is a mixed bag for real estate trends
 
Two prestigious real estate schools have different predictions for the real estate market. In their second quarter market wrap up, economists for University of Southern California’s Lusk Center for Real Estate noted that unless there are substantial job losses, the real estate market appears on track for a soft landing.
 
“We don’t believe the housing market is going to fall off a cliff,” said Stuart Gabriel, Lusk Center director in San Francisco last week. “We don’t really subscribe to the hard-landing story.”
 
Meanwhile, the second quarter Anderson Forecast, a product of the University of California-Los Angeles observed, “The risk of a housing crash rather than a slowdown is far greater than what most people think.”
 
David Schulman, a senior economist for the UCLA Anderson Forecast in his report titled, “Housing, Inflation and the Fed,” wrote that “History is on the side of a crash. Every major housing cycle of the past 45 years ended with activity declines in excess of 50 percent. Because the current cycle was so
powerful, why should we expect any less?”
 
The latest National Association of Realtors (NAR) forecast predicts existing home sales to drop 6.8 percent in 2006. That is down from NAR’s first quarter forecast, which called for a 6.4 percent drop in existing- home sales this year.
 
USC’s Lusk Center spokesperson Gabriel felt that it’s “unlikely that there will be a major shrinkage in house prices, given the strength of employment numbers. Interest rates, though marching up, are not high by historic standards.”
 
The Lusk Center report confirmed that the housing market has entered a time of “stagflation,” or “economic stagnation coupled with inflation … And the real estate market is losing steam — with a general slowing in price-appreciation and sales.”
 
The Anderson Forecast offered the opinion that the housing market is hindering the national economy.
“The driving force behind both the slower growth and the rising inflation is the housing market,” Schulman noted. “The great housing boom of the past five years is unwinding under the weight of higher interest rates and unsustainable home prices.”
 
The Lusk Center cited higher interest rates and energy costs, and reduced refinancing activity as reducing consumer spending, which has dropped from 3.9 percent in 2004 to its current 3 percent.
 

Jodi Summers
BOARDWALK REALTY
tel: 310. 309.4219
jodis@boardwalkrealty.com
 
The Anderson Forecast supports the growing rumor that there are some markets that are having real estate bubbles, and this may fall on the Federal Reserve Board.
 
“There is some truth to the notion that the Fed created the housing bubble to prevent the deflationary forces of collapsing stock prices to take hold in the real estate economy,” the report states.
 
The UCLA report hints that the Fed “is in a box” because it needs to deal with rising inflation and a decline in housing activity. Ultimately, the housing market could be a casualty as the Fed works to curb inflation.
 
“Central banks lose their credibility for failing to fight inflation,” said Schulman, who expects the Fed to raise the federal funds rate at least one more time, with “a long wait before the next easing.”
 
The Lusk Center report did not liken the current market conditions to those in Southern California in the early 1990s, when job losses contributed to a major downturn in the real estate market. Gabriel cited that
the impact of job losses in the aerospace sector hit Southern California’s real estate market hard during that period.
 
“Barring that sort of event we don’t expect significant fall off in house prices,” he summarized.
Gabriel’s forecast calls for the economy to slow to between a 3 percent to 3.5 percent rate of real gross domestic product growth for the remainder of the year, after a rate of about 5 percent in the first quarter.
 
Edward Leamer notes in the UCLA Anderson Forecast that globalization and automation may have something to do with the unimpressive employment numbers in the national manufacturing sector.
 
“We do not expect manufacturing jobs to suffer as much as in earlier housing-related downturns,” he said. “It appears as though construction is ready for a tumble.” Historically, cycles in manufacturing paralleled construction “with peaks and troughs occurring very close in time.”
 
Leamer concluded that after the 2001 recession, job cycles for those two industries became disconnected — construction jobs recovered and made substantial gains, while manufacturing jobs fell by 3 million from 2000-03, and as the Anderson Report states, “have been drifting sideways ever since.”
 
Raphael Bostic, director of the master of real estate development program at USC and a Lusk Center expert, noted that job losses in construction and real estate-related industries during this slowing period should not cripple the housing industry.
 
“Problems in housing have almost always led into recessions and attendant increases in unemployment that has amplified the housing adjustment,” affirmed Leamer on behalf of the Anderson Forecast. “Our best guess is that this time, unlike all the other times, the problems will be mostly in real estate and
will not produce a national recession.”
 
In conclusion, the second quarter Anderson Forecast Report noted, “both prices and volumes (got) out of control in the last several years. Prices … are starting to fall back to the normal band, but have another 10 percent to get back into the normal range.”
 
Jodi Summers is director of the investment division at Boardwalk Realty. For your real
estate needs, e-mail Jodi Summers at jodis@boardwalkrealty. com, or call (310) 309-4219, or visit
www.santamonicalandmarks.com or www.socalinvestmentrealestate.com.