Category Archives: Market Trends

Q3 2012 – NAI Industrial Market Report

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The Phoenix Industrial Market noticed moderate changes in the third quarter of 2012. There was a significant decrease in the square footage of absorbed space, still vacancy rates are heading in the right direction. With exports and manufacturing expanding throughout the US, there should be a continued increase in industrial space demand. In addition to this growth, there was a significant jump in new industrial construction starts this quarter. Construction and manufacturing jobs remained flat; the dismal level must make large strides to recover the more than 200,000 jobs lost during the crash.

644,000 SF of space was absorbed this quarter, down dramatically from the approximately 2.6 million square feet of space absorbed during the second quarter of 2012. Even though absorption decreased this quarter, it marks the tenth straight quarter of positive absorption. This decrease can be attributed to expected fluctuations as we pull out of the financial crisis. The largest increase in absorption was observed in the Northwest Valley submarket, which includes Glendale and Deer Valley, increasing by 24% to nearly 390,000 SF. Distribution related facilities noticed the largest declines; third quarter absorption for distribution industrial sites decreased from 915,100 SF to (221,787) SF. While the Southwest Valley lost traction this quarter recording (191,368) SF of absorbed space, the Southeast Valley showed improvement with a gain of approximately 450,000 SF.

In contrast to the decrease in absorbed space, vacancy rates showed signs of improvement. The vacancy rate for the third quarter inched down to 13.2% from 13.4% the previous quarter. Only distribution facilities showed an increase in vacancy rates, moving up 0.2% to 9.2% at the end of the third quarter. Across all submarkets, the vacancy rates maintained consistent levels. The lowest rate was noticed in the Northwest Valley submarket, with a 12.0% rate. Compared to the previous quarter, vacancy for manufacturing space declined .3% to 10.8%. This increased demand is likely affected by spending growth in the tech and defense sectors.

Lease transactions noticed a brief decline in square footage; activity was down 1.3 million SF compared to the previous quarter. On a year over year basis, the percent of occupancy increased from 86.9% to 88.2%. The two largest leasing transactions this quarter were both in the Tolleson market. A 276,336 SF lease at 10397 W Van Buren St signed by State Logistics Services, and a 238,450 SF lease signed by Communications Test Design Inc at 8602 W Buckeye Rd.

Rental rates in the Valley found minor increases, inching up to $.51 per SF ($6.17 annually), a 1.6% increase for the quarter. Landlords are hesitant to increase rates as the fiscal situation nationwide warrants risk adverse decisions from tenants looking to relocate.

There was no new space delivered in the third quarter but construction starts showed an increase. Projects undergoing construction increased this quarter to approximately 3.8 million SF, an increase of nearly 500,000 SF. The largest projects initiated were the First Solar Factory, a 1,200,000 SF building with 0% of its space pre-leased. Also started this quarter was FAB 42, an Intel Corp building with 1,000,000 SF that is 100% pre-leased.

Cap rates continued their descent, as rates trended down to 6.26%, from a previous 6.93%. That is significant improvement as the previous quarter saw rates drop 2%. The lower cap rates play to the theme of the quarter, positive but slight momentum. Across the nation, the results were mimicked, as cap rates trended down to 7.5% from 7.67% during the second quarter. There was a continuance of large scale industrial assets purchase. One such example was the 20-property industrial portfolio acquisition by Brennan Investment Group and Gatehouse Bank, acquired from AIC Ventures for $155 million. Increases in manufacturing activity and the continued expansion of our defense needs poise the industrial sector for heightened demand.

Economic Outlook 3Q 2012

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The Commercial Real Estate industry is progressing from the economic downturn post crisis. In the 3rd quarter, the largest capital investments were observed in the following sectors: apartment, high quality retail, and office space. Investors have looked towards CRE assets for enhanced returns, taking advantage of the low interest rates maintained by the Federal Reserve. Investor sentiment riddled with uncertainty and numerous small businesses searching for clarity on the US fiscal situation generated increased risk aversion causing a stalemate on employment. Businesses are also waiting for some type of clarity on taxation policies before further expansion. From March 2012 to August 2012, the US economy added an average of 96,670 jobs per month, well short of the 125,000 needed to keep the unemployment rate constant. Arizona unemployment increased 0.1% over the 2nd quarter to 8.3% while the US unemployment was reported at 7.8%, a 0.4% drop over the previous quarter. This national unemployment figure has raised the suspicious eye of several economists. Many are questioning the validity of data for employment numbers that largely beat forecasts. The unrest in Europe is a constant factor in US economy concerns as news fluctuates as to the stability in the region. Overall continued uncertainty, fueled by fear of the potential fiscal cliff and the results of the presidential election, has investors finding safety with lower risk assets.

The Federal Reserve elected to continue further quantitative easing (QE3) as of September 14th, 2012. The process will involve buying $40 billion worth of mortgage securities per month within an undisclosed timeframe. The stimulus measures are accommodative policies aimed at maintaining significantly low borrowing rates, sustaining a normal inflation rate, and improving labor markets. Markets immediately picked up, yet forecasts are mixed and some opinions point to the Fed’s decisions as irrational; unable to curb unemployment and encourage spending.

Those Fed measures did spark a temporary rally in the markets, and September was the third quarter’s best month. The Conference Board released the Consumer Confidence Index which rebounded in September and is approaching levels not seen since February of this year. The index increased to 70.3 in September, up from 61.3 in August and close to the 71.6 seen in mid-February. The level of consumers expecting business conditions to improve over the next six months increased to 18.2% from 16.7%. While public optimism improves, the Consumer Price Index (CPI) did increase 0.6% in August 2012, with a total increase for the third quarter of 1.7%. The majority of this increase is seen in heightened energy costs. There has been considerable debate about the false sense of confidence that was priced into the market due to QE3. There is a huge consensus that such “Fed easing,” offers a false sense of hope for the markets, and that the purchases may induce heightened activity in the housing market as mortgage rates plummet even lower.

Manufacturing has improved on a national scale. The Institute of Supply and Management released the ISM Report on Business, noting that the Purchasing Managers Index (PMI) rose to 51.5 in September 2012. The index is an indicator of manufacturing activity through the acquisition of goods and services. The increase of 1.9% from August 2012 proves that the manufacturing sector expanded in September, after three months of minimal contraction. In line with the ISM data, according to the Bureau of Economic Analysis, personal consumption expenditures increased 57.2 billion or 0.5% as disposable income increased 0.1%.

All core capitalization rates in the US for properties over $2.5 million stood at 6.97% at the end of August 2012. That number is up slightly from the 6.84% seen at the end of the 2nd quarter. The level of CMBS issuance, according to Pension Real Estate Association, was $167 billion in 2005 and increased to $229 billion in 2007. That level is down to $29 billion in 2012. In stark comparison, the level of CMBS delinquencies stood near $5 billion in 2005 through 2007. That level is now at $58.6 billion as of August 2012, totaling $706.9 billion in outstanding CMBS delinquencies. (Morningstar Credit Ratings)

The presidential elections and the fiscal cliff are the primary concerns for upcoming quarters. Most economists agree that compromise and changing policy in Washington are critical to the ability of our economy to improve and fully recover. Goldman Sachs predicted that if both tax increases and spending cuts take place, overall GDP would fall 4%. One major concern at the forefront of most professional’s minds is that the next President would implement policies that will curb the deficit, limit entitlements, enact tax reform and change impeding business regulation. Such tax policy could spur changes in the profitability of the real estate industry as tax burdens affect REITs. The carried interest that partners receive for investment profit could be taxed at a higher rate, not the capital gains tax rate presently in place. Nevertheless, the main upside in commercial real estate will be consumer confidence. After the elections take place the element of uncertainty will diminish.

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.