Edward Jordan: Investment real estate – A 2018 forecast

While record-high selling prices in major metropolitan markets are a real estate trend that stands to continue from 2016 and 2017 into 2018, rising retail vacancy rates is the most significant change facing real estate investors today. As investors look for opportunities in secondary and tertiary markets, understanding the shifting dynamics of the various asset types in Fairfield County and Hudson Valley markets is key.

THE FATE OF RETAIL
The U.S. is experiencing a fundamental shift in the way consumers shop, which is driving closures among brick-and mortar retail. In an effort to increase occupancy and maintain relevance, many traditional shopping malls are also embracing experiential and lifestyle concepts, welcoming health clubs and sports facilities, for example, into their complex.

CoStar reports the national retail vacancy rate rose an additional 10 basis points in the second quarter of 2017, coming in at 5.2 percent for the third quarter. An illustration of the rising retail vacancy trend, 101 million square feet of retail store closings were announced this year alone. Further, October survey data released by Deloitte revealed the recent holiday season was the first where shoppers spent more of their holiday budgets online than in brick-and-mortar retail.

While some vacant retail assets will find new life as mixed-use or office properties and others have been converted into logistics centers to fulfill online shopping orders, the current state of retail reflects the first time in a number of years that all retail, from Class A to Class C, is facing downward market pressure. And that even includes iconic retail and shopping destinations such as Manhattan”™s Fifth Avenue and Boston”™s Newbury Street. Of note, Lord & Taylor”™s Fifth Avenue store in Manhattan is even reducing its footprint and part of its building will soon house WeWork”™s headquarters. In Manhattan alone, retail rents are reported to have hit a 17- year low.

THE 2017-18 MULTIFAMILY MARKET
In recent years, record-high building values in major metropolitan markets such as Boston and New York have driven real estate investors to seek opportunities in neighboring secondary markets. Ample inventory of existing Class B and Class C assets, together with conversion of vacant commercial and office properties into apartments, have drawn multifamily investors to southwestern Connecticut and the lower Hudson Valley. Likewise, as residential and commercial tenants have set down roots in Westchester, Orange and the lower Hudson Valley, multifamily properties in close proximity to highways and public transportation have been able to maintain strong occupancy rates and rent growth. As such, values and capitalization rates for multifamily assets remain aggressive.

INFLUX OF NEW INVENTORY LEADS TO SOFTENING IN CLASS A MARKET
As high volumes of new Class A inventory come to market at this late stage of the current cycle, developers increasingly have to offer leasing incentives to lease up new properties to a stabilized occupancy rate.

For example, in the New Haven submarket, 600 new Class A apartments came to market in 2015, followed by an additional 200 units in 2016, with 500 more units still in the pipeline to be delivered. Consequently, we are seeing a 15 percent Class A multifamily vacancy rate in this market, compared to a historic average of under 4 percent.

Much like New Haven, the Stamford submarket finds itself with an influx of Class A multifamily inventory, high vacancy rates and below-average rent growth. Stamford recently ranked in the bottom 20 for submarkets across the U.S. for rent growth, falling below the national average.

These Class A market trends are expected to not only continue into 2018, but to be compounded by an uptick in homeownership rates, following a decade of declines, as Class A multifamily has to compete with first-time millennial homebuyers.

OFFICE BUILDINGS IN FAIRFIELD COUNTY AND THE HUDSON VALLEY
Local leasing agents report 52 percent of Westchester”™s office activity was concentrated in White Plains during the second quarter this year. As companies increasingly abandon sprawling suburban campuses for more dynamic urban cores, vacancy rates in area cities stand to decline while neighboring suburban communities could face declining occupancy rates. For the value-add investor, however, these underutilized properties often present an opportunity to buy existing assets for prices below new construction and reposition for higher and better use to generate outsized returns. While experts had predicted a bounce back in the suburban office market earlier in the current cycle, job growth hasn”™t reached the levels required to fuel heightened demand.

With a new national tax plan enacted, imminent change is coming to the investment real estate landscape. As always, understanding the market dynamics and identifying properties with value-add potential remain key to executing a successful investment real estate plan.

Edward Jordan is the founder and managing director of Northeast Private Client Group, an investment real estate firm with offices in White Plains and Shelton. He can be reached at ejordan@northeastpcg.com.