Landauer predicts turbulenct but successful transition in '99

Real Estate Weekly, Jan 27, 1999

After a first quarter in which cash buyers will dominate negotiations, the property markets will respond favorably to obviously solid fundamentals. Commercial property prices should resume their upward path before '99 is out, especially large, multi-tenant properties such as CBD office buildings and larger shopping centers. Real estate equilibrium should remain intact as the year 2000 approaches, according to the just released 1999 Landauer Real Estate Market Forecast.

The basis for Landauer's prediction of healthy balance in commercial property markets is the strength of the U.S. economy, the return of public market capital to complement traditional private sources of real estate equity and debt, and greater sophistication in accessing and interpreting relevant property information.

Landauer expects the following to characterize the U.S. real estate market in 1999:

* Tighter underwriting, higher floors for commercial mortgage rates and higher risk premiums will keep cap rates up in early 1999.

* Knowledgeable investors will buy "cash-flow spikes" in properties with a high number of lease roll-overs, despite perceptions of flatness in market rent growth.

* The most serious threats lie in events originating in the world economy rather than the real estate industry.

* Upward adjustments in the markets for Wall Street's real estate products should occur as the year progresses.

* Class B or weaker properties could experience a downward correction in prices as tenants migrate to the new generation of buildings now under construction.

* Although the world economic slowdown is having a negative effect on all industrial sectors, the weakness looks mild.

* Apartments should maintain their winning streak through 1999.

* The range of conditions and outlooks for hotel markets is spread wide. A half dozen markets have excellent prospects, but three-quarters of the hospitality sector faces serious difficulty.

These and other national and regional trends are discussed in the 1999 Real Estate Market Forecast published annually by Landauer Associates, Inc., a leading international real estate counseling firm. Its 17th annual forecast analyzes conditions in the U.S. economy and the five major categories of real estate.

"While everyone has been watching the highly visible difficulties in publicly-traded real estate, the privately-held commercial property sector has been bulking up," said Hugh F. Kelly, Landauer's Chief Economist. "Pension funds, the life companies, and investment partnerships are representative of 92 percent of U.S. real estate debt and equity investment. They will be flexing their muscles this year."

The 1999 Landauer Real Estate Market Forecast has this to say about the major segments of the market:

Risk Aversion Will Stem Speculative Office Development

Office markets enter 1999 in sound shape and should be rewarding the confidence that investors have shown in their acquisitions of the past several years. Nationally, offices have returned to single-digit vacancy and have captured more than 33 percent of total real estate investment since 1995. Prices per square foot now average $140 to $150, mean cap rates are under 10 percent, and for assets above $20 million, is an aggressive 8.2 percent. Of the 60 office markets reviewed in Landauer's Market Quality Ratings, 44 attained minimum investment grade of MQR4 or better. (Markets with MQR4 or higher are considered favorable in terms of their fundamentals.) San Francisco, Orlando, Phoenix, Seattle and Washington, D.C. were the top-rated office markets for 1999.

Going forward, the only risk Landauer sees in the office sector is a secular slowdown in demand due to labor market saturation and mergers in the financial industry.

Investors Renew Enthusiasm for Retail Properties

Buoyed by signs of fundamental improvement and seeking to capitalize on the potential for an industry turnaround, investor interest in shopping centers of all sizes surged throughout 1998 and has substantial momentum going into 1999. Pricing parameters have improved with investor returns. Cap rates dropped below 10 percent by the second quarter of 1998, and large, dominant malls have been priced aggressively. Centers with sales in excess of $280 per square foot typically transacted at cap rates between 7 and 8.7 percent. Investors are critically differentiating quality, though, with inferior centers trading at cap rates up to 150 basis points higher. Neither the deterioration of consumer confidence in the wake of falling stock prices nor the perceived threat of Internet shopping should compromise retail's optimistic outlook. Landauer's analysis of supply/demand conditions indicates that the majority of retail markets in the U.S. should be seeing their sales per square foot of store space on the rise in the 1999-2003 period. Chicago, IL and Portland, OR are the top-rated trade areas; most of the Midwest looks healthy; and Florida looks especially strong for 1999.

Moderate Cyclical Easing in Industrial Market

Landauer's Power Ratings analysis indicates that the risk of a slowdown in the economy is having a negative effect on all segments of the industrial market - research and development, light assembly and warehouse/distribution. A rise in vacancy rates, a softening of demand growth and the return of spec construction are attributable. A maturation of the price recovery. and a lower employment forecast are also impacting the Power Ratings scores. San Jose tops the R & D list and Phoenix ranks first in light assembly'. Despite the risk of a economic slowdown having a negative effect on all industrial sectors, the weakness looks mild, and there is no reason to expect: an evaporation of the gains earned in the industry since 1985.