Outlook Remains Bright for Commercial Real Estate Despite Price Plateau

Despite a recent forecast from the National Association of Realtors, predicting that commercial real estate prices will plateau, the future for the commercial real estate market is still promising. While the price growth in the large markets is likely to flatten out, the sector overall will remain steady as smaller markets continue to see growth from an increase in leasing demand, as well as increased interest from investors.

Inventory shortages in larger markets have driven the prices higher and the cap rates lower, shifting investors’ interest to smaller markets where they have the possibility of a higher return on their investment. This has also created a divergence in real estate sales activity, with a 5.0% year-over year decline in the large cap market and a 4.4% increase in the small cap market. The shortage of inventory available for sale is a primary driver of the price increase for small cap deals.

The relative stability of the U.S. economy has increased consumer confidence and spending. In fact, in the second quarter of 2017, private consumption spending rose 3.3 percent, signaling that consumer spending is on the upswing. The outlook for the economy remains positive as the year is expected to close at an annual rate of 2.3 percent.

Commercial real estate vacancy rates are expected to continue declining across all sectors, as the increase in employment and job creation has led to an increased demand. For the office market, business growth for professional services, especially technology, healthcare, life sciences, and marketing businesses, are fueling this demand.

The vacancy rate for industrial space is also expected to decline as increased consumer spending has led to an increased need for distribution centers in the e-commerce and trade industries. In fact, distribution warehouses and logistic centers account for almost 70 percent of new construction leasing. Although the completion of construction will increase the amount of available space, the vacancy rate is still expected to decline, as supply is still slow to catch up to demand. Despite the headlines about retail closures, the vacancy rate for the retail market is also expected to decline due to the growth in consumer spending.

A stable labor market has led to an increase in household formation and an increase in demand for multifamily housing. As such, multifamily housing will continue to see a decline in vacancy, despite a rise of new supply.