Monthly Archives: December 2019

How Much Longer Can The Record Economic Expansion Last?

The U.S. economy is in its longest economic expansion on record. The unemployment rate fell to a 50-year low of 3.5% in September (Figure 1).

Unemployment is a good way of observing the economic cycle. It is not exactly correlated with economic growth, but it gives a good picture of demand conditions and it reflects most people’s perception of the state of the economy [i]. To understand why this cycle has been so long in the U.S., we need a theory of why recessions happen.

Typically, after a period of sustained above-trend economic growth, aggregate demand catches up with aggregate supply and inflation begins to rise. Interest rates move up to control prices, but often not quickly enough because poor economic data create policy lags. “Explosive” late-cycle growth sets in mainly due to over-aggressive lending by banks [ii] and often in response to buoyant real estate conditions or high rates of new business creation. Inflation rises sharply and interest rates must play a quick game of catch up. Economic activity slows and a realization occurs in the banking business or household sectors that debts cannot be repaid as planned. A recession ensues.

Why Not This Time?

The answer lies in low inflation and a sustained period of below-trend growth. In the U.S., three negative demand shocks and two positive supply shocks have created a slow but sustainable economic expansion, in which inflation has not shown up.

Three Negative Demand Shocks:

The Eurozone Crisis of 2011 to 2012

Following a brief recovery from the Great Recession, the eurozone economy entered a multi-year economic downturn as several members looked likely to default on sovereign debt obligations. Inflation dipped below 1%. Consumer and business confidence dropped in the U.S. and the softness affected U.S. exports in 2012 and 2013. It also weighed on the U.S. stock market and bank lending (Figure 3).

The 2015-16 Oil Price Slump & U.S. Dollar Surge

The growth of U.S. oil and gas production is a very big deal for the global economy. In the early stages (2010-2014), it created a surge in capital expenditures that helped drive the U.S. economic recovery. However, when oil prices slumped in 2014 due to a global build-up of supply, some very negative consequences set in for the U.S. economy (Figure 4). The dollar surged [iii], causing exports and capital expenditures to decline. A very weak period of GDP growth ensued, and the U.S. came close to recession (Figure 5). 

The Trade War & Manufacturing Recession of 2018

A decline in corporate confidence due to the U.S.-China trade war and the possibility of a hard Brexit has clearly lessened capital expenditures and manufacturing output. The rise of populism has had negative consequences for the economy and potentially the fortunes of the average citizen. However, it is not the only factor at play. An as-yet poorly explained downturn in the global auto industry is also at work, as are the ongoing difficulties at Boeing in the wake of the 737 Max debacle.

The Rise of the Sharing Economy Since 2009

Led by millennials and Gen Z, and facilitated by technology, consumers have developed a penchant for sharing cars, bikes, clothes, hotel rooms, workspace and even homes for the sake of cost-savings and sustainability. As well as opening a broader range of consumer choices, the “sharing” economy allowed a more intense use of society’s supply of capital, whether it be for clothing, vehicles or real estate (Figure 8). Greater output for the same level of input is deflationary.

How Long Can It Go On?

The answer is probably quite a while. Mediocre aggregate demand alongside aggressively expanding supply has totally suppressed inflation. The Fed has latitude not just to cut rates to support economic growth, but to engage in further open-market activities if necessary. It might be that further monetary stimulus will, and possibly already has, created asset-price booms in stocks and the technology and commercial real estate sectors. But this does not accord with generally solid fundamentals in each of these markets. One of the benefits of slow and volatile growth is that, despite low interest rates, it has prevented the kind of heedless risk-taking behavior that typically emerges late in the economic cycle. For once, there is no overhang of speculative real estate!

What Could Bring It To An End?

A very major Middle Eastern war that impacts oil supply might do it. A major military confrontation between the U.S. and China, perhaps over Taiwan, would also be very problematic. Alternatively, a further wave of radical populism leading to anti-trade policies might further undermine corporate sentiment and the stock market. Even after 10 years of growth, the U.S. economy has yet to substantively lift the living standard of working-class people. A hard Brexit, and/or a further fracturing of the Euro Area also would be highly disruptive. But it is very hard at this stage to see an interest-rate-generated recession due to rising inflation. This is a quite different situation to any of the last four cycles in the last forty years.

By Richard Barkham, Global Chief Economist and Wei Luo, Associate Director, CBRE.


[i] See the close relationship between unemployment and the rate of real estate vacancy, and for that matter the VIX index (Appendix).

[ii] Over aggressive lending is specifically linked to implicit deposit insurance. Put simply, the banks know that they are too big to fail, so they pursue market share growth. This lending is often linked to an asset bubble in real estate or another sector of the economy, but the bubbles are the result, not the cause of perverse incentives in the banking system.

[iii] There is an inverse relationship between the price of oil and the value of the dollar.

Robust Industrial Growth Drives Returns for Global Investors

Global trade tensions and slowing manufacturing activity have weighed on global growth this year, but favorable growth in office-using employment and consumer spending continue to drive rent and capital value growth in commercial real estate.

In the three major sectors—office, industrial and retail—global average rent and capital value growth slowed year-over-year in Q3 2019. Weakening demand in some markets, limited supply of available properties, and high valuations all contributed to the softening. There were five areas of improving growth from the same period last year: Americas office rent and capital value, EMEA industrial rent and capital value, and Americas industrial rent (see Figure 1).

The industrial sector led rent growth among property types, up 0.6% quarter-over-quarter and 2.8% year-over-year globally. Both Americas and EMEA reported accelerating rent growth as leasing demand remained healthy, in line with consumer confidence and the growth of e-commerce. Alternatively, APAC industrial rent growth eased under the influence of trade tensions and a weakening manufacturing industry.

Industrial capital value growth continued to impress at 2.1% quarter-over-quarter and 7.3% year-over-year, bolstered by shifting supply chains amid global trade uncertainties. EMEA reported a three-year high of 3.6% growth quarter-over-quarter in Q3, driven by increased capital and investor interest in Netherlands, Paris, Glasgow and the Nordics. Strong momentum carried on in Americas where the U.S. economy remained remarkably stable, while APAC reported modest capital value growth mainly due to drawbacks in Hong Kong and Perth. Overall, the industrial sector continued to enjoy consistent and reliable growth.

Global office rent growth moderated to 0.4% quarter-over-quarter and 2.7% year-over-year, with the Americas outperforming (Figure 3) largely due to steady office-based employment growth in the U.S., particularly in the Southeast. Meanwhile, rent growth continued to ease in EMEA and APAC but started to stabilize in Europe because of recent rebounds in German and Italian markets.

Global office capital value growth stabilized at 1.6% quarter-over-quarter and 5.3% year-over-year. Minimal changes were observed in Americas and APAC from the previous quarter. Strong performers included Denver, Raleigh/Durham, Sydney and Chengdu—all with above-average capital value growth. After a sluggish first half of the year, EMEA rebounded in Q3. Germany, France, Netherlands and Spain benefited from stronger investor sentiment. Notably, Central London also reported positive quarter-over-quarter growth in office capital value, despite a downturn in other U.K. markets.  

The retail slowdown continued in Q3, as global rent and capital value fell by 1.2% and 1.1% quarter-over-quarter, respectively. In the Americas, retail rents declined by 2% quarter-over-quarter because of significant easing in markets such as New York, Washington, D.C. and Chicago (Figure 4). Similarly, Hong Kong high-street rent and Mumbai shopping-center rent declined as leasing demand weakened. Hong Kong rents were especially hit hard, as numerous retailers announced plans to reduce brick-and-mortar footprints and landlords slashed rents in order to retain tenants. Contrastingly, strong consumer spending in France and Germany gave EMEA its first positive quarter-over-quarter rent growth in more than a year.

Investors generally remained cautious about retail assets, especially in APAC. Assets with lower capital value in Q3 included high-street properties in Hong Kong, Melbourne and Oslo, and shopping centers in Boston, San Jose and Gothenburg. On the other hand, markets such as San Francisco, Milan and St. Petersburg showed remarkable resilience with retail capital appreciation year-to-date.

Overall, total returns that consist of income and capital value growth are easing for the three major asset types, with industrial outperforming—particularly in the Americas. This trend likely will continue in 2020, with upside potential in the U.S. office sector as leasing demand drives growth in secondary markets.

By Richard Barkham, Global Chief Economist; Wei Luo, Associate Director; Daniel Chang, Research Analyst, CBRE.

The Rise of the Alternatives Class

Specialty sectors including self-storage, data centers, medical office, life sciences facilities, seniors housing and student housing have been particularly enticing to commercial real estate investors over the past six years.

The same holds true for the year ahead.

Broad interest in alternatives is noted in CBRE’s 2019 Investor Intentions Survey, which found that 40% of survey respondents were actively pursuing one or more alternative sectors. Higher yields are one principal attraction of alternatives. Generally healthy market fundamentals and impressive long-term growth potential due to secular shifts in demand are also drawing capital to specialty sectors.

Alternatives Investment Volume on the Rise

Investment in the major specialty sectors has risen steadily in both volume and market share over the past decade. Volume more than doubled in 2011 and again in 2014. Since 2014, alternatives investment volume has averaged $59 billion annually, accounting for 12% of all commercial real estate investment. At the peak of the last cycle (2007), alternatives investment was half this amount and only 6% of total commercial real estate investment. Preliminary data for 2019 shows that alternatives’ market share rose to nearly 13% of total commercial real estate investment.

Five Primary Factors Attract Investors to Alternatives

The increased interest and buying activity in alternatives have been driven by five primary factors that will continue in 2020:

  1. Yield Premium. Even with yield compression in recent years, most alternative assets trade at higher cap rates than conventional real estate. For example, seniors housing (excluding nursing care) and student housing had average cap rates of 6.3% and 6.1%, respectively, in 2019 compared with multifamily’s 5.5%, according to Real Capital Analytics. Similarly, the average cap rates for life sciences and self-storage acquisitions were both about 6.1%.
  • Rising Market Demand. The sustained economic expansion over the past 10 years has been a major driver of market demand for alternative assets. Even more powerful, however, have been the structural changes in business, technology, demographics and society leading to significant growth in market demand for most alternatives.

The growing use of technology has created near exponential growth in demand for off-site cloud storage and data center facilities. Demand for life sciences facilities and medical office buildings has been rising due to technological advances in medicine, changes in how health care is delivered and an increasingly older population. Self-storage has benefitted from individuals and households having smaller homes or remaining in multifamily housing longer.

Demand for seniors housing has not risen dramatically this decade, but this will change over the next decade as baby boomers reach ages traditionally appealing for seniors housing. The average age of a new resident in an independent-living community is the mid-80s and the oldest baby boomer will turn 74 in 2020. However, the oldest baby boomers represent the target market for active-adult and other age-restricted rental housing.

Student housing investment opportunity has been driven, in part, by the continued need to update or replace outdated student housing facilities at four-year colleges and universities. Growth in student housing demand, however, has been modest due to flat enrollment nationally. Yet there is wide variation in enrollment, with many colleges bucking national trends and creating good investment opportunities.

  • Expanded Product Availability. The specialty sectors have provided investors with another avenue for investment, particularly important in the competitive U.S. investment landscape over the past several years.
  • Portfolio Diversification. Multi-property investors, particularly institutional investors, require property diversification in their portfolios. Diversification often can be accomplished through the traditional property types, but greater investment in alternatives has provided another avenue, especially with many investors typically overweighted in office and retail and unable to acquire enough industrial & logistics assets to meet goals.
  • Transparency. Greater transparency in pricing, market performance and operations provides prospective investors with deeper understanding of specialty sectors and greater comfort in investing in them. Improved transparency should also mitigate risk. While coverage of the specialty sectors is not as rich as for the traditional property sectors, there is a rising number of information and performance measurements. Greater transparency will continue in 2020 and help make the specialty sectors more appealing to investors not thoroughly familiar with the product.

Investors Face Three Key Challenges in Alternatives

  1. Scale & Limited Product Availability. Many investors, especially institutional buyers, need large transactions or the ability to build a sizeable portfolio to justify the learning curve and investment platform needed for alternatives investment. This often is not possible, since the specialty sectors remain quite small compared with the major real estate sectors.
  • Oversupply. Favorable economic conditions and increased demand over the past decade have resulted in a large supply of new specialty product. Most of this space has been readily absorbed, and the new supply has created investment opportunities. But a few specialty sectors now are oversupplied, which will give investors pause in 2020.

The two sectors where oversupply is more evident are selfstorage and seniors housing. Robust construction of self-storage facilities in many markets led to modest rent declines in 2019. The seniors housing construction pipeline has slowed over the past two years, but not enough for occupancy to rebound. The sector had lower-than-usual occupancy and only modest rent growth in 2019.

  • Operations. Each of the alternatives has specialized operations, some of which are highly complex. In the case of seniors housing, management is intensive. Investors often partner with experienced operators for property management; nevertheless, investors need additional expertise.

The investment allure of alternatives will remain very strong in 2020, despite these industry challenges. Specialty-sector investment in 2020 should match the $59 billion annual average of the past six years and account for 12% of total U.S. real estate investment.

By Jeanette Rice, Americas Head of Multifamily Research, CBRE.

The Roots of Rent Control

The state of Oregon was the first state to adopt state-wide rent control. Senate Bill 608 was signed into law by the governor at the end of February 2019.

SB 608 limits rent increases at renewal (but not on vacant units) of properties 15+ years old. After residents have lived in a property for 12+ months, rent increases are capped at CPI +7% (Urban West Region CPI). In September, the cap through 2020 was set at 9.9%, down slightly from 2019’s 10.3%. Properties under five units and subsidized housing are excluded from the cap. The bill also provides a more definitive framework for renewals and lease terminations (mitigating evictions without cause).

SB 608 covers the entire state of Oregon, but its impetus came from metro Portland and its impact will be felt primarily here. Portland’s steady economic growth and in-migration since the recession led to housing demand outpacing supply and to rising costs of both multifamily and single-family housing, rising more than wage levels.

Gentrification of many Portland neighborhoods has also led to rising housing costs. This has added financial stress to those needing affordable housing, with many residents without lease protections having to move (likely the major impetus of SB 608).

In general, Oregon’s new rent control legislation is not viewed as particularly onerous or restrictive to the multifamily industry. Yet, as with all rent control laws, the concern is that the current laws could be relatively easily tweaked to become more restrictive thereby more severely curtailing investment and development.

Roots of Rent Control Sentiment – Rising Rents

Through most of the 2010’s, Portland’s economy has expanded significantly, creating healthy employment growth and attracting steady in-migration. Portland’s metro population growth averaged 11% from 2010 to 2018, twice the national rate of 5.8%.

The economic expansion has created jobs, opportunity and financial gains for many Oregonians and Portlanders. The downside has been rising housing costs without necessarily commensurate wage growth. Housing construction has not kept pace with demand (except for high-end multifamily housing), leading to rising rents in multifamily and rising values for single-family homes.

Portland has become a more expensive city than in previous decades. For the resident population that has not enjoyed significant wage increases, rent has risen considerably as a percentage of income. Nearly half (46.2%) of all Portland renter households pay 30% or more of their income on rent. For households making between $35,000 and $70,000 annual income (a proxy for workforce households), 49.5% pay 30% or more of their income on rent (vs. 36.2% for the U.S.).

The roots of rent control sentiment are also found in high multifamily rent growth, particularly in the 2013 to 2015 period which had average annual gains of 8.5%. Since then, rent growth has been more moderate overall, tempered by weaker increases in Class A. Since 2015, however, rent increases have remained high in many Class B and most Class C product due both to value-add renovation work (improving the product) as well as supply/demand economics.

Roots of Rent Control Sentiment – Single-Family

The rise of single-family home prices has contributed to housing unaffordability. FHFA’s Home Sales Price Index shows considerable appreciation in both Portland and Oregon since 2011 when home prices bottomed out. The increases have been favorable for creating equity for homeowners, but they have also added to the challenges of buying a home.

From 2011 to Q2 2019, Portland’s index rose 87.0% (9.3% annual). Oregon’s increased 82.5% (7.8% per year), also well above the U.S.’s 53.4% (5.5% per year). In the past two years, gains have moderated: Portland 5.0% per year and Oregon 6.1% (U.S. 5.9%).

Impact of Rent Control

Rent control legislation typically impacts a market in five principal and related ways: investor sentiment, investment volume, asset pricing, development activity and “contagion.” It is too early to fully judge the impacts from SB 608. For that matter, fully separating rent control’s impact from other policy and economic influences is not possible. Still, it may be possible to observe some impact in the Oregon multifamily landscape, particularly in Portland.

Investor sentiment. CBRE capital markets professionals indicate that both local and national investor interest in the Portland multifamily market remains healthy and only diminished at the margins (a few investors prefer markets without rent control). At the moment, for investor interest, Portland’s generally favorable market fundamentals seem to be outweighing dampening effects from SB 608.

Investment volume. Acquisitions of multifamily product has moderated since peaking in Q3 2018. The slowdown is more apparent in the older property, although the decline in sales is also likely attributable to limited product availability. It is still too early to fully judge rent control’s impact.

Asset pricing. Rent control could lead to higher cap rates and lower property values, but there is no evidence yet. CBRE’s H1 2019 North American Cap Rate Survey revealed stable cap rates for stabilized Class A and B assets (infill and suburban). The survey revealed a slight rise for Class C infill assets from H2 2018, but a slight drop for suburban. Returns on cost for Class C infill assets inched up slightly.

Real Capital Analytics data reflected a decrease in average cap rate from Q2 to Q3 (to 5.1%). The decrease occurred in sales of older assets as well as all properties. The drop could mean that investors are not concerned about rent control or it could be a reflection of the specific assets traded in the most recent quarter. Time will provide more clarity.

Development. Longer term, rent control measures typically serve as a disincentive for development, even when new properties are not subject to rent control. Starts seem to be trending down, but permits are higher this year compared to last; the data does not provide a clear picture on construction momentum. Since, the planning and entitlement period for most developments permitted or started in the post-SB 608 period would have occurred prior to the Bill being passed, it is too soon to make any conclusion on development impact.

Contagion. While Oregon was the first state to adopt state-wide rent control, the legislation was influenced by California. Policy makers and tenants groups across the U.S. are closely watching Oregon’s rent control impacts. The largest influence may be on Washington State.

Other Public Policies of Note

Upzoning. House Bill 2001 was passed in July 2019. It requires Oregon cities (25,000+ population or within a metro) to allow duplexes, fourplexes and related higher-density housing in land zoned single-family within urban growth boundaries. Cities of 10,000+ population are required to allow duplexes on land with single-family zoning. The bill’s objective is to allow for higher densities and thereby increase housing volume, especially affordable housing.

Annual Fee. In August 2019, the City of Portland approved an annual $60 fee per apartment unit. Subsidized housing is exempt. The fees will support the city’s Renter Services Office.

By Jeanette Rice, Americas Head of Multifamily Research, CBRE.