Five Things You Need to Know in CRE 1/5/23: Federal Reserve Curve Ball and Prologis Talks its Book
During a stint at Minyanville, a financial news and education media company, I was fortunate to work under the tutelage of a talented editor named Kevin Depew. Depew is now the deputy chief economist at consulting firm RSM, and wrote prolifically during the Great Financial Crisis, brilliantly capturing the mood of America during that trying time. His "Five Things You Need to Know" was required reading every week, and covered topics from high finance to macroeconomics to social trends. This series is an homage to "Pep," who once quipped "I majored in philosophy, but since none of the big philosophy firms were hiring, I went into finance."
FIVE THINGS YOU NEED TO KNOW: FEDERAL RESERVE CURVE BALL AND PROLOGIS TALKS ITS BOOK
1) Red Sea crisis boosts shipping costs, delays – and inflation worries
The entirety of the commercial real estate world is convinced that rate cuts are a matter of when, not if, in 2024. The consensus view is that they could start as soon as Q1 of this year, but as I wrote in my contrarian predictions piece at the end of December, there are plenty of reasons to question the wisdom of the crowds.
Chief among the reasons to question the prevailing view on rates is geopolitical risk, which we are seeing play out with supply chain disruptions in the Red Sea translating into a spike of freight costs. Shipping rates more than doubled in Europe and were up more than 50% in the U.S.
Rising shipping and commodity prices could convince the Federal Reserve to hold off on easing monetary policy, which would be a setback for property owners hoping for cheaper borrowing costs. And while it's possible that the Fed "looks through" these potentially short term shocks, as was suggested by one analyst quoted by CNBC, it's also conceivable that Jerome Powell and his colleagues use the cover of a potential inflation shock to push rate cuts out to later in the year.
2) Warehouse Availability Surges to Highest Level Since the Pandemic
Industrial has been the most consistent asset class in commercial real estate over the past decade, given the surge in not only e-commerce but the advent of next and same-day shipping. Warehouse demand soared during the pandemic as Americans holed up at home and ordered online, but now that we can get back out into the world, the insatiable demand for warehouses is beginning to wane.
According to the Wall Street Journal, brokerage Cushman and Wakefield is reporting that warehouse vacancy jumped to 5.2% from 3.1% a year ago. Years of frantic construction appear to have finally caught up with demand, as the development of new industrial space is also slowing.
Vacancy is still below the long-term average of 6.4% and rents are still rising, up 10% year-over-year. The industrial sector is far from dead, but we could be in the early innings of industrial going back to being just boring warehouses, rather than the hottest investment sector in CRE.
3) Two Prologis Bold Predictions for the Economy
The biggest industrial landlord in the world doesn't appear to be fazed by a few quarters of rising warehouse vacancy. Prologis (NYSE: PLD) is betting on lower than expected interest rates and cap rate compression, driven by inflation dissipating faster than expected and large amounts of dry powder coming in from the sidelines.
Down more than 20% since its peak in 2022, PLD is still above its pre-pandemic levels and has jumped more than 30% since the bond market selloff began last October.
Prologis is putting its money where its mouth is, forging ahead with two major projects in the beleaguered San Francisco market. In addition to its massive "California Gateway" project which has been in the works for years, the firm is also pushing forward a new 285,000sqft distribution center in the same Bayview neighborhood.
Prologis is betting that the demise of its home city has been largely exaggerated.
4) Trouble Piles Up As NAR Faces 'Extinction-Level Event'
After losing a class action lawsuit in late 2023 and facing an almost $2 billion fine, the National Association of Realtors, or NAR, is facing what one real estate agent and critic of the NAR called "an extinction-level event."
Accused of colluding to fix prices - which it clearly does - real estate data site Zillow is now suing the NAR for alleged monopolistic behavior. The NAR also faces 10 additional lawsuits, according to Bisnow, which are putting its long-standing choke hold on the residential real estate market on shaky ground.
The NAR has questionable roots, which I highlighted more than a decade ago, and it would be a welcome change to a tired industry for the market to open up and give consumers more and better options when buying or selling a home. But don’t count the NAR out - it is one of the top political donors in the country, ranking in the top 10 among all organizations filling the coffers of its favored lawmakers.
5) Millennials Dominate … Everything
Real estate is really just a way of generating cash flow from demographic trends. And making real money in real estate is about getting in front of demographic trends before they hit the mainstream. Think Public Storage in the 1970s, or buying multifamily in the sunbelt coming out of the GFC.
And there is no more dominant demographic group than the much maligned Millennial Generation, who are generally in their 30s and early 40s depending on which Think Tank you pay attention to. The following are some noteworthy statistics about Millennials, compiled by Gitnux, a marketing software firm:
Millennials are now the largest demographic group in the United States, taking over from the Baby Boomers
15% of Millennials worldwide still live with their parents, including 36% Millennial men in the U.S. who live at home
65% of Millennials in the U.S. rent rather than own their home
It is estimated that by 2025, the global workforce will be 75% Millennials
Demographic shifts happen at the macro and the micro level, in the near and long term, so the study of these trends is essential to staying ahead of the CRE competition.