Commercial Real Estate and Economic Outlook

Commercial Real Estate and Economic Outlook

Lawrence Yun, Ph.D.Chief Economist

NATIONAL ASSOCIATION OF REALTORS®

Presentation at NAR Annual ConventionOrlando, FL

November 9, 2012

Don Faught

ChairCommercial Real Estate Forum

'01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12'12'12'12'12'12'12'12$0

$10,000,000,000

$20,000,000,000

$30,000,000,000

$40,000,000,000

$50,000,000,000

$60,000,000,000

$70,000,000,000

$80,000,000,000$ Volume

Source: Real Capital Analytics

'01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12'12'12'12'12'12'12'12-100%

-50%0%

50%100%150%200% Year-Over-Year % Change

Commercial InvestmentsSales Slowly Recovering for Large/Expensive Properties

Apartment Investments – Fast Comeback

$-

$5,000,000,000

$10,000,000,000

$15,000,000,000

$20,000,000,000

$25,000,000,000

$30,000,000,000

$35,000,000,000

$40,000,000,000


Office Investments – Slow Steps

$-

$10,000,000,000

$20,000,000,000

$30,000,000,000

$40,000,000,000

$50,000,000,000

$60,000,000,000

$70,000,000,000

$80,000,000,000

$90,000,000,000 Source: Real Capital Analytics

Commercial Loan Originations

2002.Q1

2002.Q3

2003.Q1

2003.Q3

2004.Q1

2004.Q3

2005.Q1

2005.Q3

2006.Q1

2006.Q3

2007.Q1

2007.Q3

2008.Q1

2008.Q3

2009.Q1

2009.Q3

2010.Q1

2010.Q3

2011.Q1

2011.Q3

2012.Q1

0

50

100

150

200

250

300

350

400

Origination Volume Index (2001 Qtr Avg=100)

Source: Mortgage Bankers Association

2000.1Q 3Q

2001.1Q 3Q

2002.1Q 3Q

2003.1Q 3Q

2004.1Q 3Q

2005.1Q 3Q

2006.1Q 3Q

2007.1Q 3Q

2008.1Q 3Q

2009.1Q 3Q

2010.1Q 3Q

2011.1Q 3Q

2012.1Q 3Q0.00

10,000.00

20,000.00

30,000.00

40,000.00

50,000.00

60,000.00

70,000.00

80,000.00 CMBS Issuance ($ Mil.)

Source: CRE Financie Council

Commercial Financing from CMBS - Faint Life

Commercial Financing from REITs

J 06 A J O

J 07 A J O

J 08 A J O

J 09 A J O

J 10 A J O

J 11 A J O

J 12 A J

-

2,000

4,000

6,000

8,000

10,000

12,000

14,000

Public Equity

Monthly US REIT Equity Issuance ($ Mil)

Source: SNL Financial, NAREIT

2000 December February April June August October 2007 December February April June90

110

130

150

170

190

210

Moody's/RCA CPPI - Composite Indices

Apartment Retail Industrial Office


Property Prices RisingApartment with the strongest gain

Rental Occupied Housing Units

1980 - Q1 1984 - Q2 1988 - Q3 1992 - Q4 1997 - Q1 2001 - Q2 2005 - Q3 2009 - Q425,000

27,000

29,000

31,000

33,000

35,000

37,000

39,000

41,000

Rental Households

Cap Rates Continue Downward Trend:Apartment/CBD Office with Lower Yields

'01 '06 '11 '125.0%

5.5%

6.0%

6.5%

7.0%

7.5%

8.0%

8.5%

9.0%

9.5%

10.0%

Avg Cap Rates by Sector

Apartment

Industrial

Retail

CBD - Office

Sub - Office


Cap Rates Still Much Better Yielding than Treasury Yields or Bank CDs

1982 - Aug1986 - Aug1990 - Aug1994 - Aug1998 - Aug2002 - Aug2006 - Aug2010 - Aug0

2

4

6

8

10

12

14

1610-year Treasury Yield

Monetary Policy by Federal Reserve (no change to 2015?)

20052006

20072008

20092010

20112012

2013 foreca

st

2014 foreca

st

2015 foreca

st0

1

2

3

4

5

6

Fed Funds %

Gold Price: Leveling off?

1976 - Jan 1981 - Jan 1986 - Jan 1991 - Jan 1996 - Jan 2001 - Jan 2006 - Jan 2011 - Jan0

200

400

600

800

1000

1200

1400

1600

1800

2000

Strong Stock Market RecoveryS&P 500 (Almost 100% from low point)

NASDAQ (More than 100% increase from low point)

2005 - Jan

2005 - Jun

2005 - Nov

2006 - Apr

2006 - Sep

2007 - Feb

2007 - Jul

2007 - Dec

2008 - May

2008 - Oct

2009 - Mar

2009 - Aug

2010 - Jan

2010 - Jun

2010 - Nov

2011 - Apr

2011 - Sep

2012 - Feb

2012 - Jul

1000

1500

2000

2500

3000

3500

NASDAQ

Price-Earnings Ratio is ReasonableS&P 500 stocks

1988 - Oct1991 - Dec1995 - Feb1998 - Apr 2001 - Jun2004 - Aug2007 - Oct2010 - Dec0

5

10

15

20

25

30

35

What about Commercial Real Estate Opportunities?

Office Market Fundamentals and Outlook

20002001

20022003

20042005

20062007

20082009

20102011

2012.1

2012.2

2012.3

2012.4

2013.1

2013.2

2013.3

2013.4

-150,000

-100,000

-50,000

0

50,000

100,000

150,000

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

20.0

Office Fundamentals

Completions Absorption Vacancy

Squa

re F

eet (

'000

s)

Perc

enta

ge

Source: NAR / REIS

Industrial Market Fundamentals and Outlook

20002001

20022003

20042005

20062007

20082009

20102011

2012.1

2012.2

2012.3

2012.4

2013.1

2013.2

2013.3

2013.4

-100,000

-50,000

0

50,000

100,000

150,000

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

Industrial Fundamentals


Squa

re F

eet (

'000

s)

Perc

enta

ge

Source: NAR / REIS

Retail Market Fundamentals and Outlook

20002001

20022003

20042005

20062007

20082009

20102011

2012.1

2012.2

2012.3

2012.4

2013.1

2013.2

2013.3

2013.4

-30,000

-20,000

-10,000

0

10,000

20,000

30,000

40,000

50,000

0.0

2.0

4.0

6.0

8.0

10.0

12.0

Retail Fundamentals


Squa

re F

eet (

'000

s)

Perc

enta

ge

Source: NAR / REIS

Apartment Market Fundamentals and Outlook

20002001

20022003

20042005

20062007

20082009

20102011

2012.1

2012.2

2012.3

2012.4

2013.1

2013.2

2013.3

2013.4

-50,000

0

50,000

100,000

150,000

200,000

250,000

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

Multifamily Fundamentals

Completions Absorption Vacancy Rate

Units

Perc

enta

ge

Source: NAR / REIS

Commercial Rents Rising:Only Apartment Rents outpacing Inflation

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

National Rents

Office Industrial Retail Multifamily

Source: NAR / REIS

Economy Supports Commercial Market Recovery

Economy Growing, though Slowly(No Fresh Recession because of Housing Recovery)

Real GDP Growth Rate

2005 2006 2007 2008 2009 2010 2011 2012 forecast

2013 forecast

-4

-3

-2

-1

0

1

2

3

4%

Payroll Jobs Changes(December to December)

2005 2006 2007 2008 2009 2010 2011 2012 forecast

2013 forecast

-6

-5

-4

-3

-2

-1

0

1

2

3In millions

Employment Rate(How many are working, rather than how many are unemployed)

2000 - Jan 2001 - Oct 2003 - Jul 2005 - Apr 2007 - Jan 2008 - Oct 2010 - Jul 2012 - Apr54%

56%

58%

60%

62%

64%

66%

Labor Force Participation Rate(Men are dropping out, Women are joining)

1948 - Jan 1956 - Jul 1965 - Jan 1973 - Jul 1982 - Jan 1990 - Jul 1999 - Jan 2007 - Jul0

102030405060708090

100%

Source: BLS

Men

Women

Corporate Profits … Sky High

2000 - Q1

2000 - Q4

2001 - Q3

2002 - Q2

2003 - Q1

2003 - Q4

2004 - Q3

2005 - Q2

2006 - Q1

2006 - Q4

2007 - Q3

2008 - Q2

2009 - Q1

2009 - Q4

2010 - Q3

2011 - Q2

2012 - Q1

-500

0

500

1000

1500

2000

2500$ billion

Business Spending … Grew but now Pausing

2000 - Q1

2000 - Q4

2001 - Q3

2002 - Q2

2003 - Q1

2003 - Q4

2004 - Q3

2005 - Q2

2006 - Q1

2006 - Q4

2007 - Q3

2008 - Q2

2009 - Q1

2009 - Q4

2010 - Q3

2011 - Q2

2012 - Q1

-40

-30

-20

-10

0

10

20

30Non-residential fixed investment growth rate

Existing Home SalesIn million units

Rising Median Price Helps Improve Bank Balance Sheets

U.S. International Trade Going Strong(Doubles every 10 years)

1992 - Jan 1995 - Jul 1999 - Jan 2002 - Jul 2006 - Jan 2009 - Jul0

50000

100000

150000

200000

250000

ImportsExports

Economic Forecast2011History

2012Forecast

2013Forecast

2014Forecast

GDP Growth +1.8% +2.0% +2.5% +3.1%

Payroll Job Gains

+1.7 million +1.8 million +2.5 million +2.6 million

Fed Funds Rate

0.1% 0.1% 0.1% 0.1%

10-yr Treasury

2.8% 1.9% 2.2% 3.0%

Huge Federal Budget Deficit … Future Borrowing Cost will be High

(Deficit as % of GDP)

1960 - Jan 1967 - Jan 1974 - Jan 1981 - Jan 1988 - Jan 1995 - Jan 2002 - Jan 2009 - Jan

-12

-10

-8

-6

-4

-2

0

2

4

Risks to Economic Forecast

– Fiscal Cliff on January 1, 2013 … if no new compromised budget then …

• Automatic deep cuts to military and domestic spending• Automatic higher taxes• 3% shave off GDP growth, which is currently growing at

2%

– Smaller Players Knocked Out of Commercial Real Estate Deals

What about Smaller/Inexpensive Properties?

• Not captured in data• No consistent measurement

• REALTOR® members deals are generally under $2 million properties

• Survey indicated only slight increase in transactions

Realtors® Commercial Market Survey

REALTORS® Commercial Activity – 2012.Q3

Sales Volume Compared with Previous Year Up 6%

Sales Prices Compared with Previous Year Down 4%

Rental Volume Compared with Previous Quarter Down 1%

Rental Rates Compared with Previous Quarter Down 3%

Level of Rent Concessions Compared with Previous Quarter Down 1%

Volume of New Construction Compared with Previous Quarter Down 2%

Direction of Business Opportunities Compared with Previous Quarter Up 0.3%

Source: National Association of REALTORS®

2005.Q3

2005.Q4

2006.Q1

2006.Q2

2006.Q3

2006.Q4

2007.Q1

2007.Q2

2007.Q3

2007.Q4

2008.Q1

2008.Q2

2008.Q3

2008.Q4

2009.Q1

2009.Q2

2009.Q3

2009.Q4

2010.Q1

2010.Q2

2010.Q3

2010.Q4

2011.Q1

2011.Q2

2011.Q3

2011.Q4

2012.Q1

2012.Q2

0.0

20.0

40.0

60.0

80.0

100.0

120.0

140.0

160.0

SIOR Commercial Real Estate Index

Northeast Midwest South West

Source: SIOR, NAR

SIOR Member Survey of Market Activity

Over $10 M

Between $5 M and $10 M

$2 M and $5 M

Between $1 M and $2 M

Between $500K and $1 M

Between $250K and $500K

Under $250K

1%

1%

6%

17%

19%

23%

33%

Dollar amount of last transaction

REALTORS® Commercial Market Survey(Nearly all are under $2 million properties)

8%

17%

25%

7%

6%

4%

18%

1% 11%

3%Current sources of financing for commercial deals

National banks (“Big four”)

Regional banks

Local banks

Credit unions

Life insurance companies

REITs

Private investors

Public companies

Small Business Administration

Other, please specify

Source: NAR

Small Banks Important to REALTORS®

Big Banks getting Bigger

1970 1980 1990 2000 20120%

10%

20%

30%

40%

50%

60%54%

Top 10 Banks' Share of Total Deposits

Source: Janicki and Prescott, BankRate.com

Regulation Consistently Cited as Top 5 Concern for Bankers Since 2009

• 2008-’09: Legislative and regulatory action (i.e. bankruptcy cram-downs, TILA, RESPA,HMDA)“

• 2009-’10: Regulatory burden and examiner scrutiny

• 2010-’11: Regulatory burden and compliance costs

• 2011-’12: Regulatory burden and compliance costs

Source: American Bankers Association

Commercial Financing—Lending Remains Tight

Tightened significantly

Tightened somewhat

Not changed

Eased somewhat

Eased significantly

23%

20%

30%

27%

1%

Changes in lending conditions over past 12 months


Commercial Financing—Lending Hampers Sales

67%

33%

Have you had a sales transaction fail during the past 12 months due to

lack of financing?

YesNo

50%50%

Have your clients failed to complete a re-financing transaction during the

past 12 months?

YesNo


Commercial Market ForecastOFFICE 2011 2012 2013

Vacancy Rate 16.6% 16.1% 15.7%Net Absorption ('000 sq. ft.) 20,714 24,064 47,821

Completions ('000 sq. ft.) 12,324 13,746 34,146Rent Growth 1.6% 2.0% 2.6%

INDUSTRIAL 2011 2012 2013


Completions ('000 sq. ft.) 15,700 28,386 57,086Rent Growth -0.5% 1.7% 2.4%

RETAIL 2011 2012 2013


Completions ('000 sq. ft.) 4,899 5,567 15,899Rent Growth -0.2% 0.8% 1.3%

MULTI-FAMILY 2011 2012 2013

Vacancy Rate 5.2% 4.3% 4.2%Net Absorption (Units) 200,720 219,318 236,559

Completions (Units) 37,678 79,845 148,623Rent Growth 2.2% 4.1% 4.4%

For Daily Update and Analysis

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November 9, 2012

Commercial Real Estate Business Trends Forum

National Association of REALTORS®

November 9, 2012

Calvin SchnureVP, Research & Industry Information

NAREIT®

Vacancy rates are elevated, apartments are the big exception

49

1 4 7 10 13 16 19 22 25 28 31 34 37 40 43 46 49 52 55 58 61 64 67 700

2

4

6

8

10

12

14

16

18

20ApartmentOfficeRetail

Annual Top 50 Market Data Quarterly Metro Data

Percent

Source: Reis

Rent growth is sluggish for retail and office, slowing for apartments

50

1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47 49 51 53 55 57 59

-15

-10

-5

0

5

10

15

RetailOfficeApartment

Annual Top 50 Market Data Quarterly Metro Data

Percent, Annualized

Source: Reis

The State of Commercial Real Estate

• Q3 saw modest improvements nationwide;– Multifamily: vacancy rates slide lower still, rent

growth slows;– Office: vacancies edging down, rent growth weak.

CBD vs suburban;– Retail: regional malls seeing improvements in

vacancies, rents, while neighborhood and community centers lag.

• A puzzle: the macro economy is at a crawl; why did CRE show any improvement?– New supply is negligible, so even a tiny bit of

absorption yields improvements.– But robust gains will need a robust macroeconomy.

• Rates are low but access to financing still tight.51

Construction at decades-low levels generates more pent-up demand

52Source: U.S. Census Bureau, Haver Analytics.

19931993199319931993199319931993199319931993199319941994199419941994199419941994199419941994199419951995199519951995199519951995199519951995199519961996199619961996199619961996199619961996199619971997199719971997199719971997199719971997199719981998199819981998199819981998199819981998199819991999199919991999199919991999199919991999199920002000200020002000200020002000200020002000200020012001200120012001200120012001200120012001200120022002200220022002200220022002200220022002200220032003200320032003200320032003200320032003200320042004200420042004200420042004200420042004200420052005200520052005200520052005200520052005200520062006200620062006200620062006200620062006200620072007200720072007200720072007200720072007200720082008200820082008200820082008200820082008200820092009200920092009200920092009200920092009200920102010201020102010201020102010201020102010201020112011201120112011201120112011201120112011201120122012201220120

10

20

30

40

50

60

70

Office

Multifamily

Retail

Private Construc-tion(SAAR, Mil. $)

Apartments and CBD Office prices leading the way; Retail and Suburban Office lag

50

60

70

80

90

100

National All-PropertyApartmentRetailOffice-CBDOffice-SuburbanIndustrial

53

Commercial Property PricesPeak = 100

Source: Moody’s/RCA

The “Tug of War” on economic growth:

Drags

• Housing crisis/ mortgage mess/ deleveraging

• Fiscal drag, incl. state & local

• Uncertainty, lack of confidence… and Europe, US fiscal cliff

Sources of strength

• Productivity growth

• Monetary policy

• Growing pent-up demand

54

• Wealth effect

When did the “New Normal” begin?

55Source: Bureau of Labor Statistics, Haver Analytics.

Months since trough-36 -33 -30 -27 -24 -21 -18 -15 -12 -9 -6 -3

Trough 3 6 9 12 15 18 21 24 27 30 33 36

94

96

98

100

102

104

106

108

110

112

200820011991198219751970

Payroll employment, past 6 re-cessions/recoveriesJob market trough = 100

Productivity growth hasn’t flagged

56Source: U.S. Census Bureau, Haver Analytics.

-2

-1

0

1

2

3

4

5

6

1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004 2008 2012

5-year change

1-year change

Percent

“Stagflation” was the original “New Normal”

-6

-4

-2

0

2

4

6

8

1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011

Percent change

1-year change

3-year change

The "Lost Decade" is into re-runs

57

Productivity growth stagnated during Japan’s “Lost Decade”

Source: Haver Analytics

Pent-up demand continues to drive multifamily sector, while new supply still falls short

• Market conditions in multifamily rental housing have tightened since the housing crisis began;

• Sustained low household formation has caused unprecedented pent-up demand;

• New supply falls far short of potential demand;

• Key factor limiting rent growth: wages.

58

Focus onMultifamily

0

1

2

3

1966 1970 1974 1978 1982 1986 1990 1994 1998 2002 2006 2010

59

Household formation plunged during the Great Recession, well below its trend pace

Percent change over year ago

Fitted Trend

Source: U.S. Census Bureau, Haver Analytics.

Focus onMultifamily

20

21

22

23

24

25

1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

60

Millions have moved in with parents, other family, or nonfamily housemates

Shared households, percent of total

The number of shared households, defined as

those with an extra adult, rose 2.9 million in 2008-

2010.


Focus onMultifamily

61

Multifamily housing construction since 2008 has totaled 700,000 below the prior trend paceThousands of units, seasonally-adjusted annual rate


Focus onMultifamily

0

100

200

300

400

500

600

2000 2002 2004 2006 2008 2010 2012

Average, 2000-2007

Pent-up demand is driving rental occupancy higher, even as the macro economy drifts

62

1970197219741976197919811983198519881990199219941997199920012003200620082010

-4

-3

-2

-1

0

1

2

3

4

5

6

OwnerRenterOwner: 3 yr aveRenter: 3 yr ave

Household formationPercent change

Source: U.S. Census Bureau, Haver Analytics

63

Borrowing demand for commercial mortgages is gaining momentum

Source: Federal Reserve Board Senior Loan Officer Survey, October 2012.

64

But standards are still tight

Source: Federal Reserve Board Senior Loan Officer Survey, October 2012.

The CMBS market continues to contract

65

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 20120

100

200

300

400

500

600

700

800

900

1,000 $ Billions

Source: SIFMA

66

Forecasters have been expecting long term interest rates to rise… for a decade, now.

Percent

0

1

2

3

4

5

6

0

1

2

3

4

5

6

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Actual 10-year Treasury yield (solid black line)

Predictions out to five quarters ahead of professional forecasters (hatched lines)

Percent

Source: Philadelphia Federal Reserve Survey of Professional Forecasters, Bloomberg

67

REITs are raising record amounts of capital

*2012 offerings through September. Source: SNL Financial, NAREIT.

Focus onAcquisitions

2004 2005 2006 2007 2008 2009 2010 2011 2012*0

10

20

30

40

50

60Debt

Preferred shares

IPO

Secondary equity offerings

Billions of dollars

REIT acquisitions benefit from access to capital, market discipline

• The REIT business model influences property acquisitions in two ways:– Access to capital allows REITs to buy properties

when they are available at attractive prices—rather than being rationed by credit standards or driven by investment fund flows;

– Market discipline discourages REITs from over-paying at the market peak—in fact, REITs sold at the top of the 2000s boom.

• REIT acquisitions early in a price cycle add value over the long haul… and REITs are the main buyers today.

68


69

Commercial Property Prices

Source: NAREIT Pure Property Index®

Percent change over year ago


Net Acquisitions Adjusted*

70Source: RCA

* Adjusted to remove the Equity Office and Archstone transactions


71

Pre-boom

2001-2003$ Millions

Boom and market peak2004-2007

$ Millions

Bust

2008-2009$ Millions

Recovery

2010-Current

$ MillionsTotal

$ Millions

REITs

15,400

(20,898)

(7,425)

27,313

14,390

Private

11,760 (81,483)

9,120

(22,957)

(22,360)

Inst'l/Eq

(13,101)

141,731

5,579

(2,439)

131,771 Cross-Border

736

38,140

2,533

1,054

42,464

Other

(14,795)

(77,490)

(9,808)

(2,971) (166,264)

Net Acquisitions… buy low, sell high

Source: RCA


REITs have posted a strong performance in 2012

72

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November 9, 2012