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Friday, July 8, 2016

Technological Disruption and the Real Estate Industry

By Amy Erixon, Toronto

Many forces are combining to cause 2016 to be the year where even the most skeptical of observers is beginning to wonder, all this technological change – what do you suppose it means to me and the way I do my job?   For example, most real estate industry executives have tried Uber or Lyft and wondered, will there be companies in the business of renting space that aren’t actually landlords?  The answer is yes, and there are several.  

Perhaps you have read about or seen an office where the workforce needs to reserve a spot to work at their regular office location, via a mobile app (for example:  Deloitte’s newest offices).  These types of digital applications have the potential to disrupt not only the way physical space is being utilized but the resulting work outcome and processes by which we undertake the work - in ways we haven’t yet conceived. 



Robotics is another field that has revolutionized manufacturing and more recently legal and journalistic research.  Are you aware of how it has disrupted logistics and is poised to disrupt the construction industry?  Likewise, revolutionary high performance materials and artificially intelligent operating systems are being utilized to substantially improve environmental performance of the newest state-of-the art projects to save occupants 50% or more on their electric bills – material in jurisdictions like Ontario where power costs are 2.5 times the North American average price.  

We have entered into an era known as the Fourth Industrial Revolution where cyber physical systems, streaming technologies, online marketplaces and artificial intelligence among other innovations are supplanting the way things used to get done.  Our infrastructure investment is lagging at the same time that the merger of scientific research and engineering applications are pushing the boundaries of what kinds of buildings and places of the future are conceivable.  All of these changes are ushering an era of great opportunity for those quick to notice the patterns and embrace new technologies. 

If you would like to learn more about a sampling of these technologies and major themes at work, I invite you to read my recent Topical Report which can be found at https://avisonyoung.uberflip.com/i/684513-aytopicalreport-techdisruption-june8-16final.

Wednesday, June 29, 2016

BREXIT: Finding clarity in murky waters



By Mark Rose (Toronto)

I was in London on June 23, the day the British voted to leave the European Union, when my taxi driver confessed: “I don’t know why I voted to Leave, but I wanted to vote for my country.” His remarks summed up the mood behind the “Brexit” vote that seems to have caught markets, politicians, business leaders and even much of the public so off guard. In just the past few days, we have seen a dizzying array of dire reactions in the U.K., Europe and across the globe, including dramatic plunge of the pound sterling and trillions of dollars in global stock market losses.

This short-term disruption is the natural effect of fear of the unknown. The market chaos that we are witnessing is due to people not knowing what leaving the EU will mean. The day after the vote, CNN reported that the most Googled search in the UK was- “What is the EU?” Visibility is low, and it is difficult to discern the guideposts, much less the horizon. While this situation is understandable, we at Avison Young cannot emphasize too strongly that no one knows how the U.K. vote to Leave will play out. A complex series of political and economic negotiations will need to be navigated over a long period of time before clarity is restored.

Yet, disruption is always a time of opportunity as well as a time of risk. Smart money will pause, assess – and then formulate new strategies. Brexit is not the death of the U.K. or Europe, and it is not the death of real estate investment, either. Our industry will bounce along as negotiations and rhetoric between the U.K. and the EU start, but global commerce is alive and well – and the U.K. is a big part of it. We may or may not be in the midst of a long-term trend, but business does not cease for long periods.

From a commercial real estate perspective, in the short term, we expect the bid-ask spread to increase as buyers and sellers jockey for position with very different views on value. This trend will lead to a slower investment pace and lower volume of transactions – although we would not be surprised to see a few large, bold transactions from smart-money investors. Similarly, for leasing, most multinationals will pause to assess the situation and chart a new course. We anticipate a slower pace and lower volumes among occupiers as well as investors in the short term.

The U.S. dollar is the big beneficiary and, thus, makes North American investment in the U.K. and continental Europe enticing as events stabilize. Europe is effectively on sale to North American investors due to currency losses. Previously unavailable opportunities may suddenly open up.

North America will continue to represent the best port in the storm. Core markets in the U.S. and Canada, in particular, become safe havens for commercial real estate investors, and New York, Toronto, San Francisco, Vancouver and Los Angeles could be a huge beneficiaries. The U.S. has largely been the world's core market over the past 24 to 36 months, with the most aggressive investors making acquisitions for capital preservation as much as for yield. The Brexit vote aftershock will amplify that situation, and we will see more markets and assets that are not traditionally viewed as core – but increasingly exhibit core characteristics – begin to trade as such. Expect the research-driven core funds to lead the way followed by separate accounts and offshore funds. In major markets, smaller assets that have the right characteristics will see pricing previously reserved for larger properties, due to lack of investable assets on the market.
The interest-rate environment, which was beginning to see signs of uptick, will remain stable to down over the next two years, possibly even the next three to five years – another ultimately positive factor for real estate investment. Brexit has clearly impacted interest rates and may have dealt a death blow to central banks interested in raising rates any time soon. Real estate as an alternate investment just became that much stronger.
Some short-term trends may promote investment opportunities; however, over the longer term, it will be wise to take the time to assess the strategic factors in play. It is simply not known yet how tariffs, import-export regulations, security agreements and movement of labor will be affected. The political and legal decisions that will shape the new relationship between the U.K. and Europe are, at this stage, opaque.
Europe’s broader political landscape will make exit negotiations quite challenging. Upcoming elections in Spain, France and Germany are bound to exert pressure on European negotiators, and some member countries will be in a hurry to be, or at least look, punitive. It is not unthinkable that Russia might make another move to test the nerve of the West.

On the home front, the U.K. has more than its fair share of homegrown problems. Scottish and Northern Irish voters, who strongly voted to Remain, are now rethinking their own alignment strategies. While the British economy has breadth and depth, according to The Economist, Britain sends more than 40% of its exports to Europe, while the EU sends only 7% of its exports to the UK.  Accordingly, Britain’s massive trade imbalance leaves it highly vulnerable to trade disputes.

Our advice to clients is to proceed with caution. History points to downward trends in the short term and a recovery in the medium term, but anyone who claims to know the details or the exact outcome over the long term is foolish. Brexit will play out in real time before us. The ending to this story is unknown.

With that said – although the emotions of this vote are high, the decline in markets around the world steep and the landscape one of uncertainty – capital flows have always found investable assets, and those who take advantage of the downturn will profit. Commercial real estate investment fundamentals remain very strong. At Avison Young, we encourage our clients to assess their situations carefully and develop a plan. Take time to pause and assess, seek out our experts. One thing is for sure- smart money has always taken advantage of disruptions in the marketplace.  

(Mark Rose is the Chair and CEO of Avison Young.)


Thursday, June 2, 2016

Smart Cities of the 21st Century

By Amy Erixon, Toronto

We are presently two-thirds of the way through “the urban century”; a period where the number of people living in cities worldwide will increase nearly 10-fold.   North America is the most urbanized region with 82% of its population currently living in cities, followed by Europe.  Most of the remaining urbanization will occur in Asia and Africa, the world’s most drought afflicted regions, and in the Middle East, the most geopolitically at-risk region.  These migrating populations pose significant challenges to be met by technology, social and economic policy.   If the problems are not solved regionally, then the existing cities of the world will need to be reshaped to accommodate this population surge. 

More than anything, it is the push and pull of technology that has triggered this demographic shift.  Electrification followed by Industrialization started the move off farms to cities.  The machine age triggered the growth of the services economy, and we have just entered the so-called 4th Industrial Revolution, moving beyond automation and global supply chains to additive manufacturing and artificial intelligence (AI), which, like previous disruptors will further realign the location, production, labor and service value chains and facilitate (or demand) that cities transform in response.    

It is from this point of view that technology will help us to address the most vexing of urban issues, including poverty, congestion, drought, and pollution; lack of access to recreation, education and affordable housing; and also address large scale climate risks, which while affecting us globally need to be implemented locally.  
Some countries, and communities are in a rush to get out in front of others on these issues.  China, for example, has for the last four years been the leader in developing and installing renewable energy.  India recently completed a global competition for teams to help meet their Smart Cities Challenge. 

 Rapidly urbanizing, the Government of India has approved US$15 billion of funding of “smart infrastructure” to improve quality of life – things including assured water and power supply, sanitation and solid waste management, efficient urban mobility and public transport, and robust IT connectivity.   E-governance and citizen participation along with safety of its citizens are some of the required attributes to secure funding for these smart cities.

Both white collar and blue collar workforces benefit greatly from the governmental implementation of IT tools to enhance quality of life; just as private sector employers have done to improve accuracy, speed and market reach of its workforce.   While some technology is being greeted with concerns - it frequently unfolds with disproportionate obsolescence and disruptive effects on certain job classifications (recently bank clerks and taxicab drivers) it also increases workforce in other areas (data analysis and programming).   But these shifts are inevitable when a technology offers more choice at lower cost.   Locations well positioned to make investments in new economy infrastructure (education and training, high speed universal broadband, cybersecurity and cyberphysical sensor networks) will be leaders in obtaining the coveted high value jobs of the future. 

Examples of current technologies causing disruption would include the sharing economy app based systems (like Uber and AirBNB); robo-finance and crowd sourcing/funding; driverless vehicles and AI smart systems.   When applied to cities - smart systems refer to cyber physical systems (CPS) - a network of sensors monitoring flows such as water, traffic, electric grid, and emergency rooms connected by wifi to a command center and communications hub where resources can be dispensed, controlled, ordered and optimized. 


May 4th, 2016 was the 100th birthday of Jayne Jacobs, the famed US and Canadian Urbanologist, and author of Death and Life of Great American Cities.  Her vision for creating livable cities that solve problems is getting a big shot in the arm toward becoming a reality, thanks in large part to advances in technology.    We should take heed and be challenging our leaders to provide constructive leadership during this transition period.  We need strategies to facilitate creation of purposeful places which facilitate positive social change and enhance economic competitiveness together with strategies to retool our workforce for the jobs of tomorrow.    

Sunday, May 15, 2016

Industrial fundamentals stable in North America and U.K.

By Mark Rose (Toronto)

New Avison Young research shows that the North American and U.K. industrial real estate markets are operating in a position of relative strength.

While local, regional and global economic headwinds continue to impact commercial property markets, the industrial sector is operating in a position of relative strength, evolving rapidly as owners and occupiers alike respond to changing demand. Traditional buildings are being viewed in a different light as they compete with new, innovative facilities catering to the burgeoning e-commerce, logistics and distribution sectors.

Our Spring 2016 North America and U.K. Industrial Market Report
https://avisonyoung.uberflip.com/i/671728-ayspring16namericaukindustrialreportmay12-16final-pdf ,  released today, provides in-depth analysis of the industrial markets in 51 North American and U.K. metropolitan regions.

Of the 51 industrial markets, vacancy declined in 38 markets, increased in 12, and remained unchanged in one, during the 12-month period ending March 31, 2016.

U.S. fundamentals continue to rebound; the Canadian market’s diversity appears to be buffering the setback in the resource sector; and Mexico City and the U.K. are both seeing strong demand for logistics and distribution space.

First-Quarter 2016 Canadian Industrial Market Highlights:

·        Demand for industrial space is robust, with 12-month absorption totalling almost 25 million square feet (msf) – nearly double the total for the previous 12-month period. Toronto led all markets by a wide margin, followed by Vancouver and Edmonton, as the East outpaced the West.

·        Ten of the 11 Canadian markets surveyed display single-digit vacancy rates (with four markets posting rates below the national average) compared with seven one year earlier. Western markets combined for a modest vacancy increase (+10 bps to 4.2%) during the past year, compared with a decline by Eastern markets (-80 bps to 3.8%).

·        Year-over-year, vacancy declined in five markets and increased in six. Toronto claimed the country’s lowest rate (2.7%), Halifax the highest (11.9%) and greatest swing (+200 bps), while Vancouver (2.8%) showed the biggest improvement (-120 bps).  

·        Keeping pace with demand, developers completed almost 16 msf of new industrial product in the past year with three-quarters delivered in Toronto, Edmonton and Vancouver. 

·        More than 10 msf is under construction – equating to only 0.5% of the existing inventory.  Only 12% of this product is preleased, pointing to the speculative nature of development across the country. Toronto and Vancouver account for 75% of the total industrial area under construction.

·        Downward pressure on asking net rental rates, especially in Calgary and Edmonton, and to a lesser extent in Regina, helped lower the national average $0.05 per square foot (psf) year-over-year to $8.04 psf. Despite weakness in the oil patch, the West ($9 psf) maintains a healthy, but narrowing, spread over the East ($6.89 psf).

First-Quarter 2016 U.S. Industrial Market Highlights:

·        The 10.6-bsf U.S. industrial market ended first-quarter 2016 with an average vacancy rate of 5.9%, and seven of the 37 markets tracked by Avison Young report vacancy of 4% or less. West Coast markets lead the country with the lowest vacancy reported: San Mateo (36 msf / 2%), Orange County (218 msf / 2.2%) and powerhouse Los Angeles (1.4 bsf / 2.6%).

·        Net U.S. absorption for the prior four quarters approached 200 msf, nearly 4% higher than the previous reporting period and an amount roughly equal to 2% of the total inventory. Los Angeles (27.5 msf), Chicago (23.3 msf) and Dallas (19.7 msf) achieved the highest net absorption.

·        Despite a faltering energy market, the rapid growth of e-commerce fulfillment and high-tech manufacturing has been able to backfill demand – and, in many cases, drive vacancy and rental rates to new records. The highest average asking triple net rent in the U.S. was recorded in land-constrained San Francisco ($16.28 psf), and the markets that reported the greatest gains in rent year-over-year were San Mateo (+$3 psf), San Francisco (+$1.74 psf), Los Angeles (+$1.56 psf), Oakland (+$1.44 psf) and Denver (+$0.92 psf). 

·        A quality gap between existing buildings and new developments has created pent-up demand for high-quality product. This trend is likely to continue for several years, as industrial developers are often priced out of the rare development sites available in primary markets.

·        Altogether, the U.S. delivered 130 msf in the 12-month period ending March 31, 2016. Another 136 msf is under construction with preleasing levels at 45%. Dallas and Los Angeles each have 20.4 msf underway.

·        In an unusual twist, tight market conditions have led some owners to begin converting office buildings for industrial use (Long Island), while other municipalities have begun enforcing zoning ordinance fines to ensure that limited industrial space is not misappropriated by office tenants (San Francisco). 

Thanks for reading. For more in-depth market analysis and commercial real estate news, visit www.avisonyoung.com.

(Mark Rose is the chair and CEO of Avison Young.)

Friday, May 6, 2016

Avison Young CEO expands on CRE trends in Canada, the U.S., Mexico, the U.K. and Germany

By Mark Rose (Toronto)

As clients regularly ask us to provide commercial real estate market analysis so that they may gain some insight for future investments, we would like to share some of the highlights from my Q2 2016 Audiocast http://www.avisonyoung.com/media-room/ceo-video-audiocasts, which covers commercial real estate trends in Canada, the United States, Mexico, the United Kingdom and Germany.

Canada  
Canadian market showing resilience
Despite continued woes in Alberta’s oil patch and swirling global economic headwinds, Canada’s commercial real estate market appears to be doing just fine. Jobs growth shows that the economy is bouncing back from the energy industry downturn. According to Statistics Canada, total employment jumped 41,000 in March, reversing declines in the first two months of 2016. After reaching a three-year high of 7.3% in February, the unemployment rate retreated to 7.1% in March. While the growth trend has been modest by historical standards, it shows that employment has held up relatively well. GDP growth was also surprising as Canada’s economy expanded at a 5% annual pace in the three months ending January 31, 2016. The uptick was driven by gains in exports and manufacturing.

Federal budget provides investment boost
The recently released federal budget will provide an investment boost to the overall economy not seen since 2006. Canada’s beleaguered manufacturing sector is also poised for a recovery, bolstered by a lower loonie. This shift in capital spending will make the economy far less vulnerable to the cyclical ups and downs of the oil patch.

Are these early positive numbers sustainable? We will have to wait and see.

Industrial sector ranks as market darling
Notwithstanding how employment and GDP figures may trend in the months ahead, the Canadian commercial property sector remains sound – apart from Alberta, and in particular Calgary and Edmonton – with the market darling being the industrial sector. Speaking of the industrial sector, and before I turn to the U.S., I would like to give you a glimpse of some preliminary results from our upcoming Spring 2016 North America and U.K. Industrial Market Report.

In short, the Canadian industrial sector is doing quite wellexhibiting record-low vacancy (now at 4%), robust demand, a conservative pipeline trying to keep pace, and rental rates approaching pre-recession levels. Much of the sector’s good fortune is driven by lower energy costs, low interest rates, a competitive currency, growing e-commerce activity and exports bolstered by strong U.S. demand.

United States
American industrial sector continues to strengthen
Like its Canadian counterpart, the U.S. industrial market strengthened over the past year as it ended the first quarter of 2016 at sub-6% vacancy overall, with several regions at 4% or less, and rising rental rates. Look for technology disruption in the industrial sector to be met with increased construction. Demand for smart-modern warehouse product, healthy consumer spending levels, the rise of e-commerce, and the need to shorten the supply chain will support this development increase. Our research shows that U.S. industrial square footage under construction is considerably higher today than it was one year ago.

U.S. office market ascends gradually
The 11-billion-square-foot (sf) U.S. office market continued its gradual ascent in the first quarter of 2016, recording positive net absorption – with vacancy approaching 10% overall – and rent growth.  We anticipate that strong preleasing levels will keep both industrial and office supply levels in check through year-end 2016 in spite of increasing construction. On the other hand, overall U.S. commercial real estate sales volume fell 20% in the first quarter of 2016 – due in part to fewer portfolio sales and megadeals – when compared to first-quarter 2015. While the reduced transaction volume hit every sector, save apartments, pricing held and cap rates were steady, according to Real Capital Analytics. 

China is leading all foreign investment in the U.S., pouring $8.8 billion year-to-date in to U.S. properties, according to Real Capital Analytics. This situation contrasts with the previous two years, when Canadian capital dominated the U.S. foreign-investment segment. Canadian capital remains a significant factor, however, with $3.5 billion invested thus far.

Mexico
Mexican average office asking lease rate remains stable
Mexico’s office sector enjoyed another strong year in 2015, particularly in the areas of class A and A-plus leasing in Mexico City. In total, 464,000 square metres (m2) of office space was leased in Mexico City in 2015 and inventory surpassed the 5-million m2 mark for the first time. Mexico City's office vacancy rate is still considered to be healthy as it averages 9.5%; however, with more than 650 million m2 expected to be delivered during 2016, and another 1.5 million m2 under design, there is rising concern about overbuilding in certain office corridors. The average asking rate, though, will remain stable in 2016. In the industrial sector,  Mexico City's total class A warehouse inventory surpassed 8 million m2 for the first time. And, the industrial vacancy rate at the end of 2015 was only 6.9%.

Central Mexico experiences tremendous Industrial growth
The Bajio, or Central Mexico, area continues to experience tremendous industrial growth, propelled by the fact that the automotive and aerospace industries have made the region their primary location. But Central Mexico is not the country’s only auto-manufacturing location. For example, Audi completed its plant near Puebla in 2015, while Korea’s Kia Motors is close to completing and commencing production at its new production facility near the Monterrey airport. According to the Mexican Secretariat of Economy, automakers invested US$5.5 billion in Mexico in 2015 alone, sparking additional collateral investment as top-end suppliers sought locations near automotive plants.

FIBRA properties to maintain high occupancy levels
The aggregate real estate value of FIBRAs, the Mexican equivalent of REITs operating in Canada and the U.S., reached US$14 billion in 2015, according to the Mexican Association of FIBRAS. FIBRA UNO alone accounted for roughly half of that total. However, the expectation of rising U.S. interest rates, accompanied by a lower peso, significantly limited FIBRAs’ advancement in 2015 compared with previous years. FIBRAs’ appetite for commercial property has driven cap rates to an all-time low, although we believe that they will not compress any further. For the remainder of 2016, we expect that FIBRA properties will maintain their high occupancy levels – with retail, industrial and office assets still exceeding 90% – and continue to post double-digit revenue growth, based on domestic currency.

United Kingdom
Brexit’s uncertainty causes investor tension
It is difficult to have any conversation about the U.K. property market without referring to “Brexit”, the June 23 referendum that will decide whether the Britain remains or exits the European Union. The uncertainty surrounding the potential outcome of the vote is starting to have a profound effect on investor sentiment with a notable decline in investment market activity.

Quarter-over-quarter, Central London office investment dropped 52% to £2.2 billion – the lowest level in more than four years. In addition, investors -- mainly individuals rather than institutions -- pulled more money out of property funds in February than in any other period since 2008. The sector was further squeezed by the increase in Stamp Duty Land Tax rates (a property transaction tax).

The combined effect of all these factors was a 0.4% fall in capital values in March after three years of continuous growth. Therefore, it appears likely that the Brexit vote will have a depressing effect on first-half volumes. But optimists will point to the rebound in investor sentiment towards Scottish property when Scotland voted not to leave the U.K. in 2014.

For the occupier, the limited supply of London offices continues to drive rents upward. In the 12-month period ending with first-quarter 2016, the total occupancy cost of new, well-located class A space rose 16% in the West End and 10.5% in the City of London. The total office occupancy cost differential between the two areas increased to £104 per square foot (psf) from £85. As a result, we continue to witness a continued migration of tenants eastwards towards the City and South Bank.

U.K. industrial supply remains limited
The U.K. industrial market continues to display limited supply and steady demand. Although manufacturing represents only a small proportion of the U.K. economy, Jaguar Land Rover’s resurgence has had a large impact on the supply of industrial property in the automaker’s Midlands heartland. In London, a shortage of supply has been the recurring theme due to the difficulty of assembling large sites and the loss of industrial land to rezoning. This situation has raised rents to new highs with West London hitting £17.50 psf.

Germany
Prime rents hold firm in Germany
Germany’s top office leasing markets had an excellent start to 2016. In the country’s top five markets, some 296,000 sf was let in the first quarter. Backed by solid economic growth and a rise in employment, office demand held firm and led to rising take-up levels mostly in Berlin, Frankfurt, Duesseldorf and Munich. Small and medium-sized office deals are the main growth drivers, and letting volumes are expected to remain high in the months ahead.

Across all German markets, vacancy decreases accelerated in the first quarter and are expected to do so for the remainder of 2016. Due to limited office supply, more tenants are now considering renegotiations and lease extensions rather than relocations. Prime rents have held firm across all markets and are trending further upwards, especially in Berlin and Munich.

Large-scale investment deals in pipeline
Total German commercial real estate investment topped €8.31 billion in first-quarter 2016, but fell short of the outstanding first quarter of 2015 total because announced large-portfolio deals had yet to close. However, a number of large-scale deals are in the pipeline and investors continue to show great appetite for German commercial real estate. So far, office deals have dominated the overall market, grabbing almost 50% of total market share. Retail accounted for almost 20% and logistics asset acquisitions accounted for 10%. Prime yields are edging downward across all German markets and segments.

Investors looking for new opportunities
With supply somewhat limited, especially in the core segment, more investors are seeking opportunities outside the core segment. This includes investment opportunities in suburban markets of the major agglomerations as much as investments in Germany’s smaller cities. Logistics and retail investors are also venturing into more peripheral locations. Many domestic investors and foreign players are also making calculated moves up the risk curve. Overall, the German market will remain a focal point for national and international investors and is expected to post an annual investment volume of approximately €50 billion in 2016.

As always, thanks for reading. To obtain more of our in-depth commercial real estate market analysis, please check out my quarterly Video/Audiocasts http://www.avisonyoung.com/media-room/ceo-video-audiocasts and the upcoming Avison Young Spring 2016 North America and U.K. Industrial Market Report.

(Mark Rose is the Chair and CEO of Avison Young.)

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