Economic Evidence Points to 2011 Recovery

By Robert Lindgren, Lee & Associates

Revitalization of the commercial real estate community is finally on the upswing, according to a recent research report from the National Council of Real Estate Fiduciaries. Encouraging indicators include three consecutive quarters of positive returns, an economy awash in liquidity and loosening debt financing.

Revitalization of the commercial real estate community is finally on the upswing, according to a recent research report from the National Council of Real Estate Fiduciaries. Some encouraging indicators include:

• Three consecutive quarters of positive returns, and a one-year total return of 5.84 percent in the latest National Property Index suggests a turnaround in the cycle is solidly under way.
• Recent upticks in the U.S. economy are providing some support for commercial real estate and other business growth plans.
• The macro economy remains awash in liquidity, encouraging capital flows.
• Debt financing is loosening up with allocations to commercial real estate increasing.
• Commercial real estate fundamentals are stabilizing

However, all is not rosy. FASB 13 rules, currently undergoing comment, will likely have an impact on how many commercial real estate tenants structure their leases. Further constricting supply is the dearth of new development, that while better than the past two years, will not provide a material increase in product. And finally, while financing for top-tier tenants with long term leases in prime locations is readily available, financing remains a challenge for lesser properties.

The competing macro and micro trends will contribute to the continuation of rising cap rates for non-core assets, while prime assets benefit from further cap rate compression. This divergence held true in both the second and third quarters of 2010 for retail and office product. Cap rates for the overall retail sector had an increase of ten basis points in the third quarter this year, while Walgreen’s cap rates declined by forty basis points.

2011 is likely to see a dwindling supply of top-tier product, with more active pursuit of single tenant property which will include second tier markets, non-investment grade tenants and/or shorter term leases as part of the mix.