By: Brian Jenkins and Mike Conger
A little less than a year ago, COVID-19's global spread changed the world in ways no one expected. Now that we are beginning to see the proverbial “light at the end of the tunnel”, we wanted to review the year since COVID-19 became the defining moment of a new decade.
We have begun to see more positive signs of life in the Commercial Real Estate sector as well. Time will tell the permeance of the changes we’ve seen, but one cannot deny that the COVID-19 “timeout” has changed things dramatically for many businesses and our culture as whole.
At the onset of COVID-19, we took the liberty of laying out the Bull and Bear cases for recovery (or lack thereof) for each product type. So the timing is appropriate to check back in on these themes:
Office work from home trends - One of the biggest shifts we have identified is the mixed results and feedback of a “distributed workforce”. The biggest question mark with working remote is about productivity. With water cooler talk being replaced with childcare interruptions; the efficiency of workers has been monitored throughout the Pandemic with mixed results. Certain industries have no doubt had success and others have struggled.
What’s clearer now is that there are some roles are more fit for distribution, and other roles more dependent on collaboration - Higher level or administrative staff being more successful than more junior or sales-oriented positions. Employees need to feel supported; they need to believe they are in an environment that fosters their growth – and the isolation or distraction of working from home is certainly not for everyone. Each company is redefining what going to “the office” means. For some, it may stay on the dining room table, or in a coffee shop. Other’s its evolving into a shared workspace, or coworking facility. And others, it is still the traditional, physical space required for collaboration, culture, and community – and hopefully soon, even meeting clients and customers.
Each company is deciding how they want to define “our office” – and the definition means a whole lot more to most than the dollars spent on having an office. An office can drive the success and growth of young employees and the future of an organization as a whole.
Early on, we all heard about the ‘death of the office’ and headlines about companies wanting to reduce their footprints by as much as 90%. Today, while it isn’t as salacious or attention grabbing, we are quietly hearing more and more companies (surprisingly including large Tech companies) planning for a large-scale return to the office space they had before.
Retail to go, and services bounce back - Nobody felt the immediate pain of the pandemic more than Retailers who had to navigate an ever-changing landscape of governmental regulations and rapidly shifting consumer behavior. Overall, we saw a lot of pain and suffering, but the businesses and landlords that were able to adapt and work together seemed to have avoided the massive amount of vacancy some predicted. Ironically the “credit tenants” with teams of lawyers seemed to play the most games. While local and regional tenants adapted quicker, and with the help of some government stimulus, maintained their commitments as much as possible. We have been proud to see so many of local tenants being nimble to adapt to the changing regulations, getting creative, adjusting and pivoting to survive (and even thrive) in this environment.
Furthermore, having weathered the storm and adapting, may ultimately pay dividends for all service-oriented business, as the urge for consumers to return to normal may be at a momentum we have never seen in our lifetime. This coupled with the rapid adoption of technology (e.g. food delivery, remote scheduling, etc.) could mean a much larger customer base long term.
Industrial keeps rolling - This is one sector where the “Bull” case definitely was the clear winner. Everything you consume passes through a warehouse at some point. And during the pandemic consumer's appetites shifted away from services into consumables for the home. Demand for distribution space is robust, while construction remains constrained. That combined with most manufacturing businesses considered “essential” and less impacted, yet still qualifying for stimulus – industrial tenants and landlords alike are among the luckiest in the market right now. Industrial vacancy barely made a blip and investor appetite for the “Safe Harbor” of capital it represents only increased. And that will be remembered long into the recovery.
Multi-family is steady - Government mandated eviction moratoriums and high unemployment numbers were a major headwind in 2020, but the direct-to-consumers stimulus and expanded unemployment benefits were a MAJOR help. The unwinding of these measures will need to be done carefully by local governments, while landlords will need to work with tenants to get current, navigate the new requirements, and the backlog of evictions. But many residential property managers we work with reported surprisingly high payment rates.
The rapid growth in cost of single-family homes, puts the dream of home ownership further out of reach of many renters. This could drive continued strength in the multifamily markets – on top of the already historic rent growth we saw over the last cycle.
The major headwind we are keeping an eye on now are interest rates. The 10 year treasury has risen significantly over the last couple of months. When rates increased in 2013 and 2018 during periods of tapering by the federal reserve, it resulted in what was called “Taper Tantrums” and it affected pricing meaningfully. While we are likely thru the darkest period of the pandemic and rates are still at a low rate, it is something to follow closely.
Investments - Transaction volume did significantly slow down due to debt markets, economic uncertainty, and lack of pricing data what investors expected to be our “new normal”. On a macro level 2020 investment volume was roughly half of what it was in 2019. But also, well outpaced the slowdown of 2008 and 2009. Volume of certain segments like office and retail were more impacted than industrial and multi-family reflecting the sentiment laid out above. But we have note seen the large volume of distressed assets hitting the market as some had predicted especially being in a “blue chip” market like San Diego. In Q4 2020 we saw a significant bounce back in investment demand which has continued through the start of 2021 which looks like it will be robust. There continues to be plenty of capital available creating a great deal of market support, especially with few alternatives for appropriate risk adjusted returns.
We take pride in the efforts we made during the early days of the pandemic and the support we provided our clients. Being a boutique private client focused firm enabled us to quickly develop resources, guidance, and strategies to deal with the unique situations the pandemic created on a case by case basis.
Now that the initial threats seem to have subsided, we pose a few questions that we’re pondering looking into the future:
• Are we headed into a prolonged period of fits and starts caused by spikes in COVID-19 variants and will the vaccine rollout accelerate?
• Are we at the dawn of a 21st century version of “the roaring 20’s”?
• Will the Fed instate Yield Curve Control?
• What level of inflationary pressures will we see going forward?
Regardless of the outcome it will be a dynamic time in our economy’s history with which you should have trusted advisors working at your side. With that in mind, we would like to remind you that we are available for a free property review, lease analysis, and strategy discussion for anyone interested in getting prepared for the future.
MARKET REPORTS: San Diego Market Data From Year End 2020 These quarterly reports include detailed information on market absorption, aggregate rental rates, and other market trends for San Diego and select submarkets. As always, if you have interest in other, more specific information or if you'd like a free broker-opinion on your property, please feel free to contact us.