🏢 Office REITs Rally!

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Office REITs rally! SFH rents outpace apartments; and multifamily distress in Texas. Let’s delve into today’s topics.

📈 Market Update

🏢 Office REITs Rally!

Office REITs experienced a notable one-day rally on November 14, 2023, with shares of office REITs soaring by an average of 11.5%, marking the largest increase since November 2020. Prominent office landlords like SL Green Realty and Vornado Realty Trust saw even higher jumps. However, this surge, triggered by favorable inflation data and expectations of a halt in Federal Reserve rate hikes, did not fundamentally alter the long-term outlook for the sector. Office landlords continue to face challenges due to the increasing adoption of hybrid work models and consequent reductions in workspace requirements by companies. This shift has led to a record national office vacancy rate of 13.5% and a substantial increase in sublease availability. While the rally offered temporary respite, analysts caution that the sector still faces a long road to recovery, with demand for new office space remaining significantly below pre-pandemic levels.

Shift to Hybrid Work Model Eases Landlord Concerns: 
In a notable trend reversal, cities like Phoenix, Dallas, and Philadelphia have seen a decline in the percentage of remote-only workers since June 2022, with Phoenix dropping from 41% to 38%, Dallas from 41% to 35%, and Philadelphia from 39% to 33%. However, this trend is not uniform across all cities, with some markets like Washington, D.C., Boston, and San Francisco experiencing an increase in remote-only work. Abby Rosenbaum, Associate Director at Oxford, noted that the move towards hybrid work, combined with factors like employment growth among office users, is likely to provide a more stable outlook for office financial performance.

Projected Decline in Office Capital Values Amidst Changing Work Trends: The shift to hybrid work models is expected to influence the financial performance of the office sector. Oxford Economics projects a decrease in U.S. office capital values, averaging 16.4% in 2023 and an additional 2.1% in 2024. The specifics for individual cities are yet to be determined. Kastle Systems, a security technology firm, reported that average big-city office attendance has been around 50% of pre-pandemic levels for much of the past year. This attendance rate is backed by employer policies requiring workers to spend at least three days in the office each week. These findings reflect a significant change in the landscape of office utilization and have implications for landlords and tenants navigating the post-pandemic work environment.

🏠️ Single-Family Homes Rents Outpace Apartments

Rents for single-family homes are increasing more rapidly than apartment rents. This surge is primarily driven by large public companies that rent out single-family homes, such as Tricon Residential, Invitation Homes, and AMH. These firms have reported rent hikes exceeding 6% in the third quarter of 2023, doubling the average increase for rental homes. The underlying cause of these rising rents is attributed to record-high home prices, which are pushing potential buyers towards renting instead. Additionally, tenants in single-family homes, who typically move less often than apartment dwellers, seem more willing to absorb these rent increases, particularly if they are settled in a desirable neighborhood with quality schools.

Home Affordability and Mortgage Trends:
The situation is compounded by the least-affordable home-sales market in decades, driven by soaring sale prices and high mortgage rates. In fact, home sales have fallen to a 13-year low as of October. The average mortgage payment now surpasses the average monthly rent by 52%. While rent growth for rental homes has slowed since its peak in 2022, it remains more resilient compared to the apartment sector, which is experiencing a moderation in rent increases. This trend is affecting investment sentiments, with stocks of single-family landlords like Tricon and Invitation Homes underperforming against the S&P 500, despite their market advantage. These market conditions present a complex scenario for investors and renters alike, highlighting the need for strategic approaches in both renting and investing in the current real estate landscape.

😱 Multifamily Distress in Texas

The abundance of Class A apartments expected to enter Texas markets in the next 18 months is reducing developers' pricing power and complicating efforts to fill units. Simultaneously, Class B and C properties purchased at peak prices during 2021-2022 are experiencing value declines due to rising renovation costs and decreasing rents. This situation is causing small developers, syndicators, and investors to confront potential losses. While the pipeline for new developments has slowed, some larger developers are preparing for future opportunities. The current state of the Texas multifamily market reflects a stark contrast to its recent prosperous past, with many participants bracing for challenging times ahead.

✍️ Further Reading

• Number of Retail Spaces Dwindles Across Manhattan (CS)

• Economic Uncertainty Driving Consumers to Discount Stores (GS)

• JPMorgan Chase’s 2.5 MSF Manhattan HQ Tops Out (CPE)

• MA CRE Office Loan Maturity Monitor: Office Borrowers Still Struggling for Takeouts; Also Time to Worry about Multifamily? (Moody’s)

📊 Chart of The Day