Monthly Archives: July 2012

Q2 2012 – NAI Retail Market Report

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The Phoenix Retail market struggled through the second quarter, but is still finding small momentum to post positive gains. The mixed signals indicate that absorption figures gained 36% over the quarter, occupancy rates increased by .3%, as rental rates declined further. Although consumer confidence declined for the US this quarter, in Arizona the total personal income level, which bottomed out mid 2009 at around $214 billion, is now up to approximately $237 billion. However, negative market sentiment and widespread confusion has exhausted the will of consumers to make large purchases. Another sign that would indicate lethargy in consumer confidence is the fluctuation in earnings of retailers in Arizona. Pre-crisis earnings were around $13.2 billion; this earning level declined to $11.6 billion in 2009, reached a peak of $14.2 billion during late 2011, and finally trended back to $13.1 billion in early 2012. Metro employment growth for professional and business services is expected to expand by nearly 4.3 % through fourth quarter 2016 according to Property and Portfolio Research. A positive forecast, but it will take several years to meet pre-crisis levels of employment.

Retail space found positive absorption figures, as 706,900 square feet of space was absorbed. The Scottsdale Submarket absorbed 209,159 square feet, while the West Valley Submarket captured 156,573 square feet. The under-performers were found in the Downtown submarket with -24,777 square feet, and the Sky Harbor Submarket losing -1,727 square feet of occupancy. We continue to see tenants transitioning over to new space, not expanding business. Higher quality class B and class A space is offering historical discounts right now, and tenants are finding favorable conditions to make transitions.

The top lease transactions during this quarter included: the 61,518 square foot community center lease signed by Blast Fitness in Phoenix, the 51,200 square foot neighborhood center lease signed by Hobby Lobby Phoenix, and the 44,468 square foot community center lease, signed by Wells Fargo in Chandler. Rental rates in the retail sector declined mildly to $14.58. Although the level is only down .47% on a quarter-on-quarter basis, it is down approximately 27% from historical norms. According to PPR, rents declined during first quarter 2011 to first quarter 2012 by -6.5%.

The Phoenix retail vacancy rate had a very slight decrease of .3% to 12.1% over the second quarter 2012. The vacancy rate for the Phoenix metro area is forecasted to decline into the next several years, moving toward 9.6% at the end of 2012, and further declining to 6.2% during 2013, according to NAI Global’s chief economist Peter Linneman.

Phoenix’s construction market showed increased activity during the second quarter 2012. This quarter realized 461,000 square feet of space under construction, and approximately 197,000 square feet of space delivered. In Phoenix, the demand for growth is aided by strong demographic prospects, as the population in Arizona is projected to expand 2.5% through 2015. The Phoenix Retail sector will eventually cycle back to pre-crisis levels; it will take time to work through the indecisiveness and market fluctuations throughout the US. With such a troubling fiscal situation, and utter misperception about current market standing, individuals have scaled back on purchasing goods.

On a national scale, during 2006 and 2007, demand for retail space approached 2.4%, while supply was making advances nearing 1.5%. Conversely, during mid 2008 through mid 2011, demand bottomed out to approximately -.5%, supply was basically nonexistent and vacancy levels peaked above 13%. However, we are making progress as demand is positive, and vacancy levels find the lower 12% range. The momentum needed to balance the uptake in distressed debt must make serious advances. From early 2005 until later 2008, the volume of delinquent commercial mortgage-backed securities found levels around $5 billion. At issue is the current level of delinquent mortgages. In April 2012 the volume had risen to $58.4 billion. Such escalations have drastically brought down rental rates as renegotiated mortgages, under the original value, allow owners to scale back leasing rates.

Throughout the US, cap rates for the retail sector have remained at flat levels, averaging 7.17% through April 2012. Levels spiked up to 7.88% during 2009, but have trended back down to the high 6% – low 7% level. While the volume of sales for retail properties nationwide was in the $50 billion range pre crisis, during 2011 $39.8 billion in sales was noticed. Furthermore, during 2004 and 2005, the US retail market saw returns nearing 20%. While we bottomed out during the second quarter of 2009 at -12.5%, progress is still contained as fourth quarter 2011 recorded returns just under 10%. In perspective, the US lost a lot of ground throughout the recession and with stagnating employment numbers, growth will be slow.

Q2 2012 – NAI Office Market Report

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The Phoenix Office Market made progress through last quarter’s downfall. Absorption numbers were positive for The Valley overall, and vacancy percentages declined as well. Arizona is poised for growth as larger macroeconomic factors strengthen, yet the process will be gradual. The Coincident Economic Activity Index for Arizona which combines four state level indicators (nonfarm payroll employment, average hours worked in manufacturing, the unemployment rate, and inflation adjusted wage disbursements) to summarize economic conditions into a single statistic, also increased. The index inched up just over two points to 179 during the second quarter. Educational and health services employment as well as financial services employment statewide advanced approximately 1.8%, still down significantly from 2007 levels.

Absorption figures through the second quarter increased from 74,492 to 881,772 square feet. The vast percentage of space being absorbed was noticed in the Central Phoenix submarket; a total of 413,593 square feet. This movement is consistent with previous trends, tenants flocking to higher quality space near easily accessible metro centers. On the other hand, only one submarket noticed negative absorption. The Northwest Valley submarket lost 28,846 square feet of previsoulsy occupied space.

Lease transactions maintained similar levels in square footage; 2.03 million square feet were leased through mid-year. Dollar volume in sales transactions had mild decreases, dropping 39% to $132.08 million. The top lease transactions during this quarter included: the 183,000 square foot lease at 2700 W Frye Road in Chandler signed by QBE Insurance Group, the 140,000 square foot lease at 1500 N Priest Drive in Tempe signed by State Farm Insurance, and the 92,109 square foot lease at 1260 S Spectrum Blvd in Chandler with Infusionsoft.

The Phoenix office vacancy rate had a slight improvement; standing at 20.4% compared to the previous quarters 21.6% . The rate for the Phoenix metro area is forecasted to decline in the next several years, moving toward 14% during 2015. Occupancy increased by 1.5% for the Phoenix metro area during the second quarter of 2012. Examining occupancy growth and demand growth, trends point to tenant movement toward the downtown Phoenix submarket. The downtown submarket had demand growth in excess of 17% and occupancy growth close to 7.5%. Other notable submarkets with high demand growth include: Chandler, Scottsdale Airpark, and South Tempe, each having demand growth of 4.5% or better.

The Valley’s new supply of space has dwindled slightly. Levels since third quarter 2011 have been relatively low. Second quarter space under construction was at 285,638 square feet. At the same time, only 46,326 square feet of space was delivered. The second quarter did not realize any construction starts, however the final phase of Hayden Ferry Lakeside, a class A office tower in Tempe, will commence construction during fourth quarter 2012. Additionally, with the increases in construction employment, and strengthening in capital lending, there should be an increase in construction activity in the years to come.

There has a been a mass transition away from class C properties into higher quality class A & B properties. Although the move to higher quality office properties has commanded nearly a 23% rent premium over lower quality properties, rental rates altogether have stayed relatively stagnant. Most CRE assets are being reevaluated and priced accordingly, discounted because of the tremendous outstanding debt. This suggests tenants are finding great deals on new space leases, as well as sale properties. Rental rates across all property classes slid down .9% to an average of $19.93 this quarter. This theme is consistent with other sectors of the CRE industry; tenants are still maintaining the pricing power, and landlords are typically keeping rents steady to sustain tenant retention numbers.

The markets most prone to space absorption and rental growth will be technology, energy, and health care. Phoenix serves several large scale defense and aerospace companies. With easy access for further investment, Arizona is positioned to become an attractive marketplace for several high-tech sector companies. Arizona’s EnviroMisson Solar Tower and Arizona’s Solar Strategic Plan by The Arizona Energy Consortium outline initiatives that will contribute to the value of the tech sector in Arizona.

Cap rates trended down this quarter for Arizona’s office market, rates subsided to 6.61% from 7.91%. Nationally capitalization rates for the office sector averaged 7.20% during the first quarter. Across the nation rental rates for office space have increased 1.6% on year-over-year basis to $28.10. At the same, the vacancy rate fell 40 basis points to 17.2%; the historical vacancy low is 12.5%. The addition of only 100,000 to 150,000 workers per month equals out to a slow and sluggish recovery, not the fast paced regaining the US would like. Expect the remainder of 2012 to exhibit positive albeit slow growth for the office market.

Q2 2012 – NAI Industrial Market Report

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The Phoenix Industrial Market showed modest improvement over the previous quarter’s relatively weak progress. The figures pointing to positive momentum in the industrial sector evolve around the large amount of space that was absorbed, as well as the downward trend in vacancy. However, it should be noted that the vacancy rate for the second quarter of 2012 is still approximately 4% above historical norms. Phoenix metro employment growth is expected to sustain advances during the remainder of 2012, yet levels will be down 50% of pre-crisis levels, according to data from Moody’s Analytics.

Absorption figures through the second quarter marked a significant turnaround for the industrial market. Nearly 2.3 million square feet of space was absorbed this quarter compared to approximately 280,000 square feet absorbed in the first quarter of 2012. The strong activity this quarter sets the stage for achieving the improved forecast for the industrial sector in early 2012. Both distribution and warehouse properties experienced absorptioin growth with nearly 1 million square feet absorbed in each property type.

Lease transactions noticed a slight increase in square footage, bringing total square footage to 3.65 million during second quarter 2012, an addition of nearly 400,000 square feet. The three largest leasing transactions this quarter were all in the Southwest Sub-Market. Total Warehousing a provider of third party logistics, signed a 358,830 square foot lease at 435 S 59th Avenue in Phoenix, MiTek, a supplier of engineered products, entered into a 259,200 square foot lease at 7890 W Lincoln Street in Tolleson, and Exel, a supply chain and solutions provider, signed a 237,176 square foot lease at 7210 W Van Buren Street in Phoenix.

The Phoenix industrial vacancy rate decreased slightly dropping to 13.4% compared to 14.2% in the first quarter of 2012. Flex building space continues to have the highest vacancy rates, with vacancies at 21.5%. Warehouse space posted the lowest levels at approximately 12.5%. Forecasts suggest vacancy levels for warehouse space will continue diminishing through 2014. Manufacturing space had low, though improving, absorption numbers. We expect continued increases in demand for manufacturing space. Advances in technology are fueling spending for both the aerospace and defense industries, suggesting further investment in manufacturing space. One such example is the $5 billion investment by Intel to expand their facility in Chandler.

The analysis of the industrial market shows positive trends and modest growth prospects, albeit slow, identified by the increases in absorption across all property types, and the downward movement in vacancy rates. This improvement is not yet strong enough to support higher rents. Rental rates increased 0.8% over the previous quarter from an average of $.50 per square foot ($6.01 annually) to $.51 per square foot ($6.06 annually). As economic conditions continue to fluctuate and fuel uncertainty, landlords are choosing to maintain lower rental rates to attract tenants and fill their vacant space. Vacancy needs to drop significantly for the pricing power scales to shift from tenants to landlords.

Construction faced a mild compression. Delivered space decreased this quarter to approximately 327,000 square feet down from approximately 560,000 square feet delivered in the first quarter of 2012. There were no new construction starts in the second quarter however the start of the third quarter gave rise to approximately 3.3 million square feet of space under construction. According to Phoenix Business Journal, third quarter 2012 should yield construction of approximately 1,190,000 square feet of speculative building projects. The first project, Coldwater Depot will be developed as a cross dock distribution warehouse space. The 56-acre site is in the city Avondale, along Interstate 10 and 127th Ave. The first phase will build out around 600,000 square feet. The second project, Estrella Logistics Center, will be a 592,000 square foot distribution center. The 38.4-acre site is located in the city of Phoenix, serving as a speculative distribution center.

Cap rates trended down two percentage points this quarter, to 6.93% from 8.66%. This decrease suggests that there is an excess of capital to be deployed, a growing interest in industrial sector properties, and a limited supply of industrial space. Nationwide, significant industrial purchases totaled $1.9 billion, a 17% increase on a year-on-year basis, according to Real Capital Analytics. Large REIT’s increased their holding of industrial properties. Blackstone Real Estate Partners purchased a portfolio consisting of 65 industrial properties in the central US for $770 million. Large scale purchases such as this outline our perspective that the industrial market will continue to press forward with positive momentum, ultimately playing a major part in the recovery of Arizona’s economic health.