Forget Forecasts: These 8 Drivers Already Set the Real Estate Table for 2016
Omnibus Bill Surprises, Another Record Christmas and Collapsing Commodities Combine to Set the Trend in 2016
Each January brings winter and a season of forecasting. We make resolutions and predictions. We read other people’s prognostications and expert opining. But this January we’re fortunate that a confluence of substantial events have recently occurred that will shape real estate trends in 2016—no crystal ball required.
Everyone knows deal flow is up and more investors and lenders are back in action—pushing many markets to full recovery and beyond. Regional banks are on the offensive again but the financial landscape is also evolving. Non-traditional lending sources are moving into real estate looking for return in this low interest rate environment. Technology is also driving innovation, which is creating new opportunities and driving regulatory change. Last October, for example, the SEC opened the door to private placements to non-accredited or ‘retail’ investors, which will benefit many online start up lenders and crowdfunders. This kind of innovation is exciting and will ultimately deliver new forms of investment into the capital stack, but these will take time to evolve and mature before having a major impact.
The following eight recent events are already impacting decision making across sectors. Each one substantial and emerging together in quick succession, together they will shape the real estate environment in 2016 and beyond.
1. Higher Interest Rates, But Still Historically Low Interest Rates
The Federal Reserve turned the page on the recovery period of the Great Recession by raising interest rates for the first time in nearly a decade—but this is only the end of the beginning. Lackluster growth in the global economy will keep foreign central banks with easy money policies.
This is the worst start to any year in the history of the U.S. stock market. The global economy looks particularly weak, with China already stimulating its economy and the Europeans ready to do more. Tepid growth and poor economic visibility will keep foreign central banks with easy money policies. This will anchor global interest rates and inhibit the ability of the Federal Reserve to raise interest rates. Raising rates too fast or too much will cause major disruption in this global environment.
Rising rates have the potential to threaten real estate values, eventually, but not in 2016.
2. FIRPTA Neutered: Expect Even Greater Global Capital Flows into the U.S.
Foreign investment in the U.S. is at an all-time high. As the leading global economy, with well-regulated capital markets, ongoing innovation and stable overall environment, the U.S. has attracted a large amount of capital from around the world. Individuals and corporations are investing in the U.S. According to AT Kearny’s Foreign Direct Investment (FDI) Confidence survey, the U.S. has been the top destination for FDI for three years in a row. And the world’s wealthy are also investing in the U.S.—infamously so in some prime markets where Russian and Chinese buyers spend millions on unoccupied penthouses—but also in worthy development projects through vehicles such as the EB-5 program (extended by Congress on December 23 unchanged until September 2016).
Snuck into the big omnibus bill Congress just passed in December was a substantial easing of FIRPTA. This 35 year old real estate tax was intended to protect U.S. farmland from falling into foreign hands and could tax foreign investment in U.S. real estate at extreme levels when combined with applicable state and local taxes. Already with a competitive advantage for global capital, real estate in the U.S. just went on sale to global investors on terms not seen in a generation— which will produce even more foreign investment.
3. Oil and Energy Prices: Advantage U.S.
Meanwhile U.S. oil production is at a generational high. Crude oil production has doubled under the Obama administration and huge unconventional reserves are being put into production. Prices have collapsed below $30, with millions of barrels of Iranian crude set to hit the market in 2016 courtesy the lifting of sanctions in the nuclear deal. Sustained low oil prices will hurt oil-sensitive sectors and geographies harder than in 2015. But everyone else wins: consumers, businesses, and U.S. trading partners who will benefit more than ever from cheap U.S. energy prices thanks to the easing of the export ban that Congress also put into the omnibus bill in December. Suburbs and rural areas will get the biggest boost.
Abundant natural gas supplies and increasing sources of wind, solar and biomass energy are also keeping U.S. electricity prices in check relative to global competition. An industrial user can pay double the price for electricity in Europe compared to the U.S. Energy is a major competitive advantage for the U.S. once again, putting a massive, structural tailwind behind its economy. Industrial activity has picked up and thousands of jobs have already re-shored from overseas helped by lower energy costs. Unlike every other recovery in the last few decades, the U.S. is adding manufacturing jobs and the trend is up.
4. Solar Boom will Shine On
Congress also took advantage of the omnibus bill to extend the solar tax credits, which will keep the rapid growth of solar installation in recent years marching on. As innovation drives costs down, innovative financing and community solar arrangements are finding additional means to install solar capacity in more areas. Most important of all, solar costs have collapsed 80% in the last five years—with a very bright future indeed.
Solar is a major land use in many markets already, with limited supply of sizeable parcels already tightening some east coast geographies. Brownfields, greyfields, landfills and other contaminated land will become increasingly useful and desirable for solar power. With demand and deal flow increasing, BrownfieldListings.com is opening a market segment just for solar development opportunities by launching a nationwide Brightfield Portfolio.
5. Some Suburbs/Secondary Markets Hot, Some Urban Centers Cool
Nothing can stop the overall megatrend towards urbanization and density, but the suburbs have not died. The urban ultra-dominance of recent years is creating opportunities for well-priced, well-located suburbs. Rising prices and low inventories in overheating urban centers are making some suburbs too competitively priced too ignore—even for picky millennials. Low rents have high value when student debt payments are so substantial. Low gas prices come at a good time for less dense areas and help make the suburbs more affordable.
This creates opportunities for secondary and small markets, but those with convenient, walkable neighborhoods and amenities will still outperform. Design and quality of place make the difference now more than ever.
6. Billions to Battle Urban Blight with a Wrecking Ball
Lagging urban areas got their own omnibus surprise in December when Congress recycled $2 billion from the Hardest Hit Fund towards demolition and blight removal. This neighborhood stabilization policy will see as many as 100,000 homes and structures demolished in older urban centers across the Midwest in this first of its kind federal effort. “This may be, in terms of attacking blight, the biggest federal investment we’ve seen,” U.S. Rep. Dan Kildee, D-Flint Township told the Detroit Free Press. “The real goal for us is to create an environment that is acceptable to private investment.”
This shrink-to-grow strategy hopes to eliminate inventory to spur new growth, but this urban renewal approach has its critics. Nevertheless, big money is targeting underperforming urban areas. Only weeks after the omnibus bill, the City of Baltimore followed with its own $700 million anti-blight demolition fund. These targeted anti-blight measures join a recent trend of local finance in cities like Chicago that are collecting their own capital to address infrastructure and growth needs.
7. Congress Manages First “Long Term” Transportation Bill in a Decade
While not packaged in the omnibus, this December Congress also produced a $300+ billion bill funding roads, bridges, and rail lines through 2020. The five-year infrastructure bill is the longest reauthorization of federal transportation programs approved in over a decade, ending a frustrating era of stopgap bills and half-measures that left the Highway Trust Fund nearly broke and clouded decision making for local governments and business groups.
A predictable funding path is the news here, as the bill itself contains little transportation policy change. It includes small initial increases for both highway and transit spending ($200 and almost $50 billion, respectively) and then raises their allocations at the pace of inflation. The Transportation Alternatives Program, beloved by urban planners for its pool of funding for the walking and biking modes so in demand today, will rise from the current $817 million annual allocation to $850 million and then be held constant without adjustment for inflation. This will leave states and cities, like Baltimore and Chicago, to meet the growing demand for tactical urban infrastructure projects.
8. Christmas Breaks Records and Shippers. Again.
Online shopping has crossed the economic Rubicon never to return. The false dawn of online retailing in the Nineties is ancient history and now the clicks are beating the bricks outright. For the first time ever in 2015, online purchases during Thanksgiving shopping weekend were larger than in-store purchases. Amazon’s Cyber Monday sales were 40% higher than last year.
Like the two record-breaking Christmas seasons before, the holiday shopping season in 2015 was so big and disruptive that private shipping companies failed to deliver every package on time. That makes three holiday shopping seasons in a row where package delivery companies ruined Christmas. Consumers are spending and shipping more than ever.
Real estate is bearing the brunt of this disruption. Retail sales are at all-time highs, but many retail stores have declining traffic. Retail forms will need reimaging to remain relevant. Sense of place, thoughtful design, integrated elements and experience-based uses will all become valuable traffic magnets going forward.
The impact on real estate is rippling into other segments as well. Distribution, warehousing and logistics will also never be the same. Amazon has already been investing substantially in a new delivery network, installing facilities in secondary and tertiary markets. All package delivery companies are upgrading their networks since the shocking 2013 season when “Peek Week” came a week later than traditionally. Amazon Prime’s two-day free shipping was introduced, and instead of delivering the expected peak of 29 million packages on December 17, UPS delivered 31 million packages on December 23— a massive deviation from expectations that caused major shipment disruptions.
Flash forward through two more door busting holiday shopping seasons and package shippers still couldn’t deliver every package on time in 2015. It’s clear the transition from bricks to clicks has reached critical mass. The economy may not surprise to the upside in 2016, but the die for real estate is cast. Same day delivery from near-in distribution points is the near future, but Amazon’s drone fleet isn’t delivering packages quite yet. We’re still going to need human beings to manage and operate these smaller, denser and more responsive distribution networks.