Analysis: CRE Reaches ‘Late Stable’ Stage

The commercial real estate market has reached a “late stable” stage with some “moderate” signs of distress, reported RCLCO, Los Angeles.

The late stable stage precedes the early downturn stage, RCLCO said.

“Multiple metrics and indicators continue to suggest that we are in a ‘late stable’ stage of the market cycle for most property types in most geographies,” the company’s State of the Real Estate Market report said. “We continue to have limited reason to fear an impending or sharp downturn in real estate performance in certain property types and geographies.”

RCLCO said its base case scenario assumes the current late stable conditions will likely extend through this year, “though we continue to be wary of potential ‘left tail’ events that could derail this trajectory.”

On balance, the consulting firm anticipates moderating but generally positive operating and investment performance in the near future, largely due to a strong economy and “healthy” property market fundamentals.

Of course, different CRE sectors have different outlooks. The retail sector’s outlook diverges based largely on asset size. “Disciplined construction activity continues to benefit neighborhood and community retail operating performance, but certain retail types and locations are suffering from structural obsolescence, largely thanks to e-commerce,” the report said.

What e-commerce takes away from retail properties it gives to industrial assets, which benefit from booming online sales. Industrial remains the healthiest real estate sector, RCLCO said. But industrial property construction recently caught up with demand.

Like retail, the hotel sector diverges by asset type. Limited-service hotel cap rates held steady in the fourth quarter while full-service cap rates continued to compress. Overall, hotel occupancy fell slightly below its recent peak and revenue per available room remains very strong. Transaction volume declined in the fourth quarter.

Office property deliveries exceeded absorption for the fourth straight quarter in late 2017, RCLCO said. “Expect to see flattening performance in most markets.” Interestingly, the spread between Class A and Class B office assets also widened in the fourth quarter–a sign that office tenants show an increasing preference for value instead of quality.

The multifamily sector has reached equilibrium in most markets and exceeds it in some, the report said: “Expect net operating income–and asset pricing–to moderate.”