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COVER STORY, DECEMBER 2007
BROKER OUTLOOK FOR 2008
Real estate experts look ahead to the new year.
compiled by Brian A. Lee
Despite many real estate challenges, including a national credit crunch, the West is poised to produce more big headlines in 2008. Western Real Estate Business contacted some of the foremost brokerage firms in the region to get their take on commercial real estate next year.
San Francisco
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A diverse economy and high barriers to entry will help keep San Francisco afloat in 2008.
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San Francisco Bay area commercial real estate is experiencing effects from the slowing of the overall economy. San Francisco’s diverse economy provides a strong base to weather market changes, but area companies are demonstrating more conservatism in their expansion and leasing plans.
All product types have experienced declining vacancies and return to near equilibrium, with the office and R&D turnarounds among the more dramatic. Bay area office vacancy in third quarter 2007 was 15.1 percent, falling from 22 percent in 2003; R&D is 11.1 percent, from 19 percent in ’03; industrial is 4.8 percent, from 6.8 percent; warehouse, 4.1 percent from 10 percent; and retail is 5.4 percent, barely off its 5.5 percent mark in ’03.
Among the major trends for the City by the Bay are:
• Slowing home sales especially in outlying markets, although San Francisco condominiums seem to be maintaining their price levels
• Office rents are continuing their upward pressure, fueling tenant sticker-shock and pursuit of alternatives such as the East Bay
• Technology companies in Silicon Valley have absorbed much of the excess high-end space, and biotech and healthcare expansion are fueling demand existing in peninsula and San Francisco Mission Bay submarkets
Investment sales particularly in Class A office have continued at a healthy pace, and the outlook is for San Francisco to continue to attract local and international buyers, which, from a tenant perspective, is helping fuel concern about rising rents. Meanwhile, apartment prices have remained pretty much unchanged amid increasing rents throughout the bay area, led by San Mateo County on the peninsula at an 8 percent rise in average rents from last year.
One national trend taking perhaps more prominence in the bay area than elsewhere is the interest in green and sustainable commercial space. Tenants particularly in office and R&D space are asking developers for buildings with tenant-centric attributes such as high energy efficiency, low demand on natural resources, increased daylighting for human performance and a lower carbon footprint. Even restaurateurs and retailers have reported high consumer interest in the origins of their offerings and sustainable aspects of their operations.
In sum, San Francisco and bay area commercial markets are at a turning point of near equilibrium as companies have absorbed most of the excess supply of recent years just as the uncertainties of the national economy are causing them to be slightly more conservative in their expansion plans. Meanwhile, developers and investors continue to see Northern California as a prime market and are seeking to meet demand — with both traditional and innovative green space.
— David Klein is a senior vice president and partner with NAI BT Commercial in San Francisco.
Puget Sound
Key Asian shipping routes, the growth of Seattle and Bellevue as 24-hour cities, a record backlog of orders for Boeing Airplanes, and the high tech-economy will all contribute to continued strength in the Puget Sound market through 2008.
The multifamily market, which boasts a 3.8 percent vacancy rate, continues to be red hot and is considered by many to be the number one asset class for investments in the area. The expanding employment base, including the large population of 20- to 30-year-old workers entering the market, will continue to drive apartment rents higher, as many are not able to afford mortgages due to high home prices and the recent credit crunch.
The retail market is equally robust as the growing area population and high income levels continue to attract national retailers. Current vacancy is 4 percent, and rental rates range from $35 to $75 per square foot per year NNN in central business district (CBD) locations and $20 to $40 per square foot per year NNN in suburban, grocery-anchored centers.
The office and industrial property types are the most visible indicators of Seattle’s metropolitan market strength. The driver of office leasing activity continues to be the expansion of leading regional companies including Microsoft, Expedia and Amazon, all of whom have recently or will soon be announcing major space expansions. Within the past year, tech industry giants Yahoo and Google have made major commitments to expand into the Puget Sound market.
These tech companies are now also choosing to locate in the Bellevue and Seattle CBDs, where demand has historically been driven by financial, legal and service firms. The Bill and Melinda Gates Foundation is currently constructing a 600,000-square-foot world headquarters in Seattle, and Children’s Hospital is planning a 1 million-square-foot facility near downtown Seattle as well. Additionally, there is nearly 1 million square feet of medical administration and research space under construction in six projects around the downtown Seattle core. Market vacancy stands at 8.8 percent.
Fueled by its proximity to the ports of Tacoma and Seattle, the Puget Sound industrial market continues to be strong as more than 5.2 million square feet of space was completed in the first 9 months of 2007, with another 3.7 million under construction. Vacancy throughout the area crept up slightly to 7.3 percent; year-to-date absorption exceeds 1.6 million square feet. As businesses search the region for large land parcels on which to build distribution facilities, the Interstate 5 corridor south of Tacoma and in particular Thurston and Lewis counties will continue to offer the most viable options.
It is likely that high land, construction and entitlement costs will deter overdevelopment, resulting in declining vacancies and increasing rental rates, which should ensure stable appreciation in the market for the foreseeable future.
— Scott Coombs is executive vice president, brokerage, for GVA Kidder Mathews in Seattle.
Las Vegas
The Urban Land Institute and PricewaterhouseCoopers LLP recently released their annual Emerging Trends in Real Estate 2008 report, which states that more than 600 of the nation’s leading real estate experts expect a significant slowdown in the U.S. commercial real estate market. Although this setback will ultimately have an effect on Las Vegas in some ways, the market should be in a position to come out of this slowdown quickly within the next 14 to 16 months.
Las Vegas is a somewhat resilient market due to the fact it is economically supported by the gaming/hospitality industry. This prominent industry generates employment that creates a need for affordable residential and multifamily housing. For instance, MGM/Mirage’s CityCenter project, slated for completion in November 2008, on the Las Vegas Strip has already generated thousands of construction jobs and is expected to create 12,000+ permanent jobs, bringing in additional workers from outside of the Southern Nevada area, where they will become permanent residents. CityCenter will also affect the local commercial real estate market in that these large resort hotel and casinos produce a need for back-of-house space such as warehouse/distribution, industrial and office space.
In addition to resort/casino projects, two industries — furniture and medical research — are moving into the market and thus positively affecting the commercial real estate industry. With both the third building of the World Market Center and the Lou Ruvo Brain Institute slated for completion in 2008, these growing industries will increase the need for office and industrial/warehouse space in the market. Furthermore, Las Vegas has already become the regional base for federal, state and county legal and government entities.
Overall, the Las Vegas commercial real estate market may see a slight slowdown, but, on the whole, it will remain stable. No real bust has occurred in the market. More than likely there are still properties across the market that are holding values much greater than their initial purchase price; the market is just in a time of reconciliation and adjustment. This is simply a part of the natural cycle and we should take this time to develop clearer, more concise strategies for when this dynamic market goes on an upward trend.
— Victor Donovan is a senior managing partner in the Las Vegas office of Colliers International.
Hawaii
For Hawaii, the healthy economic dynamics that drove job growth and housing starts for the past 7 years appear to be waning. Economic forecasts indicate a decline in the pace of growth as inflationary pressures dampen business optimism. For 2006, Honolulu’s CPI jumped to 5.9 percent, as fuel and housing costs pushed inflation higher. For 2007, the CPI forecasts are likely to slow to a 5 percent pace of growth, still significantly higher than the national rate.
For the residential market, forecasts indicate nominal growth in median home prices but a continuation in the slump in sales volume. Hawaii appears to be insulated from the national credit crunch problem as foreclosures and defaults still only constitute a very minute portion of our overall housing marketplace. A slowdown in residential home sales volume is beginning to impact the office sector with several mortgage company closures and a decline in residential construction activity affecting the industrial marketplace. Projections indicate that these conditions are merely a temporary setback for the commercial and industrial markets.
Rising wages, costs of goods, housing and land values, and construction costs are influencing 2008’s market direction. Global economies play a very influential role in Hawaii’s economic growth with rising investment activity and interest in the Aloha State from other Pacific Basin economies of South Korea, China, Japan and Canada providing some insurance should the national credit crunch result in a recession.
The growth of resort timeshare projects has been phenomenal. More than 600,000 square feet of planned industrial condominiums will be actively marketed during 2008 in response to the tight market conditions and rising rents. Also, for those retailers diligent and patient enough to endure the lengthy search process, many are rewarded with top grossing stores. Nordstroms, Target, Walgreens, Whole Foods Marketplace and Steve & Barry’s are planning 2008-2009 entries into this market.
The West Oahu market has experienced a boom that is drawing more than 2.5 million square feet of planned retail developments and 700,000 square feet of office projects to the area. Also, Waikiki’s retail renaissance is nearly complete with the renovation to the Royal Hawaiian Shopping Center and the occupancy of Outrigger’s Waikiki Beach Walk.
— Michael Hamasu is director of research and consulting at Colliers Monroe Friedlander Inc. in Honolulu.
Phoenix
Phoenix market watchers will be keeping a close eye on infill development/ redevelopment, the local distribution sector and changes in the capital markets in the coming year.
Two of the largest infill development projects — the $900 million CityScape mixed-use project and One Central Park East, a 26-story, 700,000-square-foot office tower — have broken ground in the CBD, with completion scheduled for 2009. With downtown’s most recent high-rise office buildings — Phelps Dodge Tower and Colliers Center — opening in 2001, CityScape and One Central Park East are part of a push to move Phoenix to a 24-hour city with a thriving downtown core.
Meanwhile, the industrial sector stands poised to capture the large distribution tenants this market has not historically seen. As the activity levels in the ports of Los Angeles and Long Beach continue to generate demand for distribution space, the Valley of the Sun will be looked upon as an alternative to the Southern California markets. Transactions completed this year include Amazon (600,000 square feet), The Home Depot (376,000 square feet) and Ulta Cosmetics (330,000 square feet). Rental rates are at historic highs for this product type due to construction and land costs. Several of the projects that are under construction are being pre-sold to investors absent of any pre-leasing.
Finally, the capital markets will play a significant role in the Phoenix market in 2008. Unlike during other uncertain economic times in the commercial real estate industry, an abundance of capital is sitting patiently on the sidelines waiting to deploy across all product types and asset classes. Although both investors and sellers will be waiting to see if they can bridge the pricing gaps, most institutional investors will be more apt to make a move in late first quarter to mid-second quarter, due to the need to place their 2008 capital allocations.
— Craig Henig is senior managing director in CB Richard Ellis’ Phoenix office.
New Mexico
While the national economy seems to have uncertainty and mixed signals as to its direction, the local landscape for New Mexico appears to be more predicable. The market continues to remain somewhat insulated from the national picture. While residential starts were up during the last several years, the sector didn’t boom. This translates to a little softening locally but nothing extraordinary. Local job growth is strong; the market’s unemployment rate is just under 4 percent. While the broad markets and economy will impact New Mexico, it does tend to be somewhat resistant to the broad swings in either direction.
Retail should be the most prolific property type in 2008 as development will respond to the state’s healthy population growth during the last several years. There are three power centers coming on line in Albuquerque — two should start construction in the next 12 months and one just broke ground. All three are located in the city’s underserved suburban trade areas. That will add 1.5 million square feet of needed retail space.
The market is experiencing more awareness of lifestyle center applications. Not to say that there will be more lifestyle centers built, but that more applications and components of lifestyle centers have been embodied into the new projects. The quality of architecture and design is becoming more of a relevant characteristic in development.
Forest City’s massive mixed-use development, Mesa Del Sol, is gearing up and should become more of a relevant factor in the Albuquerque market as it continues to build momentum and mass. With 13,000-plus acres, the master-planned community will enjoy a bright future.
The most relevant ordinance that has come into play is the Big Box Ordinance. It is unclear as to how the Albuquerque market will respond. It should cause pause for the retail developers and users for the large-scale projects in the market. It will also add momentum to the municipalities outside of the city boundaries but within the metro area such as Rio Rancho, Los Lunas and Bernalillo County.
Albuquerque had its first multi-tenant LEED-certified office building open this year. More green buildings are coming on line in 2008 particularly in the North Interstate 25 corridor. There has been strong rental growth, which has compelled some office space users to seek second-generation space.
Las Cruces continues to be a bright spot in the New Mexico landscape. Steady and healthy population growth, affordability and climate have fueled growth. Quality master-planned communities and a pro-business government add to its momentum. Several relevant retail and office projects break ground there in 2008 and 2009.
— Steve Maestas is managing partner at Maestas & Ward Commercial Real Estate in Albuquerque.
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