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President's Column
February 2006 - How's the
Market?
If
you’ve been in the real
estate industry more than a
couple of years, you’ll be
certain to be asked the
question “How’s the market?”
This is seemingly an
innocuous question, however,
there is no one “market,”
there are many markets.
Markets
are affected by many
different factors including
international, national, and
local economies, political
situations, supply and
demand factors, etc. Thus,
my reply to this question is
typically “which market?”
This question triggers
further questions in the
minds of the questioner.
Typically at this time of
the year, people do self
reflections, new business
plans, etc. and “experts”
come up with their forecasts
for the coming year. I am no
different.
To make
forecasts, one must at least
have a basic knowledge of
economics, which has been
called the “dismal science.”
Anyone can spew out
statistics to substantiate
prognostications. However,
one must have a knowledge of
trends besides just current
“numbers.” For example,
there are approximately 78
million baby boomers born
between 1946 and 1964 in the
United States. How does this
impact the residential,
commercial retail, office,
and industrial markets and
in what ways? If I said that
the current unemployment
rate is 4.9%, that is merely
a statistic. How does that
compare to other periods?
That is the lowest rate
since 2001 and, in fact,
there have been over 2
million jobs created in each
of 2004 and 2005 in the
United States. Thus, one can
make the assumption that the
job market has seen a strong
increase.
We can
also look at mortgage rates
with current mortgage rates
on a 30 year fixed loan at
6.34% for single family
residential. This is the
same rate that it was on
January 1, 2005. However,
most people anticipate an
increase in this rate given
that the Federal Reserve
Board has been increasing
the federal funds rate that
now stands at 4.25%. It is
largely expected to be
increased at least a quarter
and perhaps a half to three
quarters of a point over the
next few months.
Thus,
these mortgage rate
increases should negatively
impact the single-family
residential market. However,
when this happens this also
then typically favorably
impacts the apartment rental
market as people who might
have otherwise bought a home
may now be renters.
The
stock market has languished
for the last few years,
since the dot com bust of
2000. The highest the Dow
ever achieved was 11722.98
on January 18, 2000. As of
January 1, 2005, it stood at
10117.5. The NASDAQ was only
up 1.37% for all of 2005 and
the S & P 500 was up 3%.
We must
consider what the stock
market is doing as it is
also an alternative
investment to real estate
and competes for funds with
real estate investments. One
must also look to other
international funds as the
world investment market
becomes available to all
people. For example, the
Nikkei 225, the equivalent
of the Dow in Japan, was up
40% last year, while the
German Da was up 28% last
year. In fact, Italy’s
exchange was only up 15.5%
and had the smallest
increase of all of the
European exchanges, compared
to the Dow’s basically even
state for all of 2005.
Thus, one might assume that
the American market will
appear undervalued at this
point and that the U.S.
stock market will
substantially increase in
2006.
Another
interesting note is that
many of us have heard about
the “state revenue crisis”
since 2001. However, since
2001, states have actually
closed $264 billion dollars
in deficits. The Bush tax
cuts alone in mid 2003 have
created GDP growth of 4% and
federal tax receipts have
increased over the past year
the fastest in over 20
years. State revenue has
gone from a 3.2% decline in
2002 to an 8.7% increase in
2004 and an 8% increase in
2005. The implications of
this are that state
government has been A)
spending too much money and
B) to the real estate
market, this is probably a
positive factor as those
people that have been added
to the payrolls will need to
have offices.
Another
frequently discussed topic
these days in the media is
the “housing bubble”. This
theory is that the prices of
single-family homes have
escalated too rapidly and
that the prices will
therefore drop. The problem
with this argument is that
in California, for example,
there has been a demand for
approximately 300,000 new
housing units per year due
to population increases with
corresponding rates of
approximately 150,000 new
single family starts per
year. Any basic study of
economics dictates that
supply and demand will rule
and, when the supply is
limited and the demand is
strong, the price of the
product will continue to
remain high. Therefore, I
don’t see any dramatic drop
in prices. I do see a slow
down in the number of units
because prices will continue
to remain high and the
affordability index
extremely low in most areas
of California.
Retail
space is largely a function
of housetops. As the number
of houses grow in an area,
the demand for retail
increases. Since the housing
market has been strong, it
is anticipated that retail
will continue at a steady,
although perhaps slower
pace, than the past few
years.
Apartment demand is almost
the antithesis of
single-family demand. As the
single family supply and
prices continue to increase,
the apartment market has
decreased. However, as the
number of single family
residential units
constructed decreases, this
will increase the demand for
apartment units. Since there
has been a limited amount of
new construction of
apartment units in
California during the past
three years, apartment rents
should start escalating and,
therefore, values should
escalate similarly.
The
office market is largely a
function of the service
sector jobs. As indicated,
previously, the job market
has been increasing at a
fairly significant rate the
past two years. It is
anticipated that it will
continue at a slower, but
good rate of 1.5 million
plus new jobs for 2006.
For
several years, there has
been concern that the office
market would shift radically
as more people move to home
offices. However, it appears
that most people who do
utilize a home office also
still need an office away
from home.
Most
markets are still recovering
from the over-built
situation of the late 1990's
and early 2000's. However,
the overall market has seen
seven quarters of vacancy
decline. The current vacancy
rate in the U.S. is 14.7%,
as opposed to 16.3% in 2004
per REIS Consultants.
Absorption in the 4th
quarter was 16 million
square feet with over 61
million square feet absorbed
in all of 2005. The average
national effective rent is
$20.65 per SF per year. It
is anticipated that
California will continue to
benefit from the expanding
world trade and financial
sectors.
The top
five markets in the United
States, based on lowest
vacancy rate, are as
follows: Washington D.C. -
7.2%; Orange County, CA -
8.4%; Palm Beach, FL - 9.3%;
New York City, NY - 9.4%;
San Bernardino - 9.5%. The
bottom five markets are all
in the older rust belt such
as Detroit, Cleveland,
Rochester New York, and also
Dallas which had a
significant amount of
overbuilding.
The most
improved area per increased
net rent is San Francisco,
followed by San Diego and
Orange County, all in
California.
New
construction has remained
steady but relatively low.
After peaking at 126 million
square feet in 2001, it
dropped to 30.8 million feet
in 2004 and 35.4 million
feet in 2005. The Central
Valley and Sacramento region
are seeing increased demand
for office space and also
office condominium space.
Demand should continue
strong and new supply is
still relatively limited.
The
industrial market is also a
function of jobs but in a
different sense. The old
industrial market was
largely employee driven,
however, with new
technologies, the industrial
sector utilizes more square
footage with fewer
employees. For years,
California has been losing
industrial jobs due to high
expenses and heavy
regulations. However, the
amount of square footage has
increased as more and more
warehousing inventory is
required.
I do not
see any major manufacturing
facilities, either expanding
substantially or relocating
to the Central Valley due to
the aforementioned problems.
However, warehousing space
will continue to grow, as
will smaller incubator space
for start-up companies. The
demand is very strong with a
relatively limited supply
for either small incubator
space with some office or
for medium sized warehouse
space. There appears to be a
substantial inventory of
large warehouse available.
Other
markets will continue to do
well due to the influx of
population from other parts
of California and from
overseas.
The
hotel industry will see
continued improvement in
occupancy rates and in room
rates. The whole area will
see a fairly significant
increase in tourism as
Sacramento becomes more and
more an international trade
point and as the
Woodbridge/Lodi Wine area
becomes a destination point
for wine tourism.
The
largest issue facing most of
the Central Valley over the
next several years will be
the availability of land.
Many communities are either
are in slow growth modes or
are impacted by slow growth
resolutions and their
General Plans to accommodate
new growth. This has kept
the supply of available
development land below
potential demand and,
therefore, could help drive
prices up substantially over
the next few years. We will
discuss this topic at length
in a future column.
Contact Garry:
 Garry
C. Duncan
President/Broker
Circle of Distinction
garry@duncanda.com
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