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Tuesday, June 19, 2018

Office Market on the Upstream

By Rand Stephens (Houston)

While the industrial market is thriving in Houston, the office market is moving at a slower pace. For eight of the last nine quarters, there has been negative direct net absorption. The direct vacancy rate is at an all-time high of 16.2% for the first quarter of 2018, and the combined direct and sublease availability rate is at 22.4%. Meanwhile, the industrial market has remained below a 5% vacancy rate and the momentum fueled by distribution centers and robust activity around the Port of Houston continues.  Oil prices are above $65 a barrel and the unemployment rate in the Houston Metro Area is down from 5.4% in 2017, to 4.2% today.  So, why the lopsided recovery among the industrial and office sectors?

The answer is energy efficiency – and not the kind that reduces your light bill. The energy industry is becoming more efficient and shrinking their office footprint by doing more business with less people, thus, easing the need for office space. Houston’s biggest oil and gas companies have scaled back and consolidated their office spaces as they cautiously emerge from the downturn. The average-sized deal has decreased by roughly 10,000 square feet and although more deals are being made, they are smaller in size.

Traditionally, when the oil industry is flourishing, it has a ripple effect throughout the Houston economy, including commercial real estate. And, most economic sectors have seen an improvement. However, it’s going to take more than just an increase in oil prices to have a positive impact on energy jobs and office space.  The office market, particularly along the Energy Corridor, is shaped by the upstream industry.  Drilling in the Gulf of Mexico and other deep waters has decelerated considerably since 2010, but the administration is offering lower royalty rates for offshore activities and larger tracts for bidding in an effort to revitalize exploration and production.  Office activity is likely to see a boost as more offshore projects are launched.

Shell's Appomattox platform in the Gulf of Mexico
It is encouraging to see major energy companies such as Royal Dutch Shell, BP and Exxon Mobil announce exploration projects in the Gulf and the Mediterranean.  Shell recently completed and launched their new deepwater Appomattox  platform in the Gulf and also discovered the Dover well about 13 miles from the Appomattox. That’s Shell’s sixth discovery in the Norphlet region of the Gulf. BP is also working on the Mad Dog Phase 2 platform, which is expected to produce first oil by 2021. 

The anemic upstream activity of recent years did not bode well for the office market, but these projects indicate that there is light at the end of the tunnel.  The office market will stabilize as opportunities for job creation and added space by the energy industry increase. It’s going to take some time, but it’s headed in the right direction.

 (Rand Stephens is a Principal of Avison Young and Managing Director of the company’s Houston office.)

Monday, May 21, 2018

Making the Connection

By Rand Stephens (Houston)

The economy in Houston is looking strong.  Unemployment is down. The energy sector is bouncing back and 
Memorial Park Connector - Land Bridge
the city is close to full recovery from Hurricane Harvey. And now, Houston is about to get a little greener, thanks to Rich and Nancy Kinder, the Houston Parks and Recreation Department, the Memorial Park Conservancy and the Uptown Development Authority. Recently, the Kinders, via the Kinder Foundation, pledged an historic
$70 million to the Memorial Park Conservancy for improving the 1,500 acre urban park – the largest in the nation and double the size of New York’s Central Park.  This collaborative effort will have a long-lasting impact on the community and visitors for generations to come.  Connecting public and private resources and partnerships produce innovative results.

Established in the 1920s, Memorial Park is the only former WWI training camp in the country that has not been completely developed. With more than 4 million visitors a year enjoying its running and bike trails, and sports facilities for volleyball, baseball, swimming and golf, it makes sense to invest in a plan that will connect neighborhoods to neighborhoods, link the park to Houston’s expanding hike-and-bike networks and provide access points to the hundreds of acres of inaccessible land.  Although not part of the plan, connecting Memorial Park to Buffalo Bayou Park would mean approximately six miles of park trails extending from downtown Houston to uptown Houston – a bold concept to make this city an even better place to live, work and play.
Houston leads the nation in implementing public-private partnerships to improve and care for public assets.  Each member in this alliance is to be commended for transforming their vision into reality.  Having the foresight to include Memorial Park to the Uptown Houston Tax Increment Reinvestment Zone (TIRZ) was critical to making this plan happen.  [Unique to Texas, the state tax code allows a county or municipality to designate a geographic area a TIRZ to promote development or redevelopment of the area.Connecting group resources of government, non-profits and private philanthropy is no easy feat, but Houston emerges as a shining star for this collaboration which, will have a lasting positive impact on the community for generations to come.

 (Rand Stephens is a Principal of Avison Young and Managing Director of the company’s Houston office.)

Thursday, May 17, 2018

Sound fundamentals, e-commerce and innovation drive rapidly evolving North American and European industrial sectors

by Mark E. Rose (Toronto)

Sound fundamentals, the logistics requirements of e-commerce, and innovations in building design and utilization continue to drive the rapid evolution of the industrial property sector across North America and Europe. An under-supply of available space remains a central issue in most markets, and developers have responded with notable new construction to anticipate occupiers’ growing needs. Major online players are altering the supply chain, and new technologies and innovations are determining how, where and what type of industrial product is being built. Meanwhile, the needs of big data and the cannabis industry (in some markets) are adding to an already crowded playing field. Unknown factors potentially impacting the sector – and the global economy in general – include geopolitical changes such as the renegotiation of NAFTA and the U.K.’s exit from the European Union.

These are some of the key trends noted in Avison Young’s Spring 2018 North America and Europe Industrial Market Report, which covers the industrial markets in 59 North American and European metropolitan regions:

The push to find cost-effective solutions for same-day or next-day delivery to consumers is continuously challenging the retail sector – and, by association, the industrial sector, which frankly are becoming more intermingled than ever before. Although e-commerce sales make up only a small, but rapidly growing, fraction of overall retail sales, stakeholders looking to service the retail sector are thinking long-term. Strong demand is reflected in declining vacancy rates which, by the way, are at or approaching historic lows in many markets and countries, leading to rising rental rates for industrial space. This situation has increased asset values – a fact that has made industrial assets hot commodities among investors and users as well as occupiers.

Confidence in the long-term viability of the industrial sector and e-commerce has recently been demonstrated not only by the sheer leasing velocity and demand for space, but also by some notable M&A activity, such as the all-cash transaction valued at C$3.8 billion, including debt, between Blackstone and PIRET earlier this year in Canada, as well as a recently announced merger agreement in which Prologis will acquire DCT and its 71 million square feet (msf) of real estate in a US$8.4-billion stock transaction, including the assumption of debt, in the U.S.

According to the report, of the 59 industrial markets surveyed by Avison Young across North America and Europe, vacancy declined in 38 markets, remained unchanged in three, and increased in 18 during the 12-month period ending March 31, 2018.

The analysis also revealed that, with demand in most markets outpacing new supply, the development of new product has escalated. Nearly 235 msf was completed across all markets surveyed by Avison Young in the 12 months ending with the first quarter of 2018 – an increase of more than 5 msf compared with the prior 12-month period. Meanwhile, the amount of space under construction increased more sharply, jumping more than 13 msf year-over-year to nearly 234 msf.

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

Monday, May 7, 2018

Is the complacency in the bond market really over?

By Norm Arychuk (Toronto, Debt Capital Markets Group)

Bonds have an inverted relationship between price and yield.  With interest rates and bond yields poised to increase, bond prices will take a hit – the longer the maturity of the bond, the larger the hit.  A 10-year bond that is subjected to a 2% increase in yield will suffer a 20% loss in value – not an investment for the faint of heart in the current environment.  Imagine if you were the manager of a major bond fund like Pacific Investment Management Co. – arguably the world’s largest actively managed bond fund at nearly $80 billion and over $1.4 trillion in managed assets.  What would your reaction be to the current market conditions and the forecast of rising rates?
Inflation and interest rates are closely linked.  The higher the inflation rate, the more likely interest rates are to rise.  The U.S. Federal Reserve Bank (“the Fed”) has strongly signalled that further multiple rate increases will be delivered this year and in 2019.  Notwithstanding this clear sign and that rate increases that have already been implemented, 10-year U.S. treasury bonds have been volatile and have recently fallen to levels well off their February 2018 peak only to ocellate higher in April – volatility at its finest. The Fed and bond market investors give the impression that they are at odds with their respective views of the near term – someone appears to be wrong.  It looks as though relatively lower yields in the bond market are projecting bond investors sentiment that inflation and a strong U.S. economy are not quite as worrisome as the Fed might have us believe.   The bond market is more than just an economic indicator and it has been known to be dreadfully wrong – check the 2007 – 2008 records.
Investors’ views and economic reality do not seem to be aligned at present.  Long term treasury yields are slightly in excess of 3% and are nowhere near the Fed’s inflation target of 2% plus the real economic growth of 2-3%.  Historically, long term interest rates tend to fluctuate around the rate of nominal GDP growth.  This rule of thumb implies that 30-year rates should be in the 4-5% range – if inflation were actually 2%.  Sooner or later the disconnect will align and the gap between bond yields and GDP growth will close – either growth will weaken dramatically or interest rates will rise significantly – place your bets. 

(Norm Arychuk heads up Avison Young’s debt capital markets group, specializing in debt placement of all types.)

Sunday, April 29, 2018

Are Cryptos the Dot-Com of this Stock Market Cycle?

by Amy Erixon, Toronto

Many investors are scratching their heads over the mania around crypto-currencies.  In 2017, the number of new crypto initial coin offerings soared as the spot price of Bitcoin rose from $726 the day following Donald Trump’s election (all figures in this blog in USD) to near $20,000, one year later.  (As of this writing Bitcoin is trading at $9302, up from $7000 just a month prior).  Amidst this dizzying apparent tulip bulb market for Bitcoin, it is easy to miss the importance of  the distributed ledger technology that underpins the currency, and the increasing legitimization of Initial Coin Offerings (ICO’s) in the form of digital tokenized securities.  Token sales representing, for example, limited partnership interests in properties, oil or venture capital pools are growing rapidly - and like internet-based technologies that preceded them, offer the promise (but not necessarily the reality) of improved democratization and integrity of the investment industry. 

Properly designed, these investments look like any other form of security investment, except that they is traded on a distributed ledger technology platform (vs conventional public or private regulated market exchange).  Many of these tokens have hard asset backstops (ranging from gold to oil, to property limited partnerships or actual securities), while others don’t, which makes the space very confusing.   For a look at how quickly, and globally, this market is growing, refer to this interactive chart from    The size of offering is shown in size of the circle and region in which the offering originated is shown by color. 

Did you do a doubletake?  You read that right, as of November of last year, ICO’s had raised more than $6 billion, and the volume continues to rise exponentially, (a whopping $1.2 billion was raised in December 2017 alone).  For context, the worldwide supply of gold is estimated at a current market value of $6 Trillion, so even at this growth rate these ICOs are a long way from dominating securities markets.   Even so, the wild volatility of various crypto-currencies and the fact they trade largely on unregulated exchanges has banks and regulators scrambling to understand what should be done about the space.    In March 2018 the G-20 meeting included as agenda item #2 (following denuclearization of North Korea) discussion of the need for harmonizing regulations in this sector.   Canada and Luxemburg are two of the early adopter countries. 

According to a report published by International Data Corporation, worldwide spending on blockchain solutions is forecast to grow with a five-year compound annual growth rate (CAGR) of 81.2% to $9.7 billion in 2021.    Everywhere you look symposiums are being organized to discuss distributed ledger technology, its cybersecurity, and the wide range of utility for these software platforms – from identity to title registries, from health care to supply chains.   Proponents, such as Bill Fearnley, research director of Worldwide Blockchain Strategies, suggest: "Interest and investment in blockchain and distributed ledger technology (DLT) is accelerating as enterprises aggregate data into secure, sequential, and immutable blockchain ledgers, transforming their businesses and operations."  

Blockchain technology records transactions digitally, and uses software techniques to validate, secure and save transaction information in a distributed database in the form of a ledger.  The more distributed the information storage is, the more difficult it is to alter.  This represents an innovative way to keep track of many types of assets, commodities, currencies and smart contracts, bypassing conventional market exchanges and “market makers” (often costly intermediaries).    This technology is important for numerous reasons, among them: optional confidentiality, improved cybersecurity, and its potential technological integrity against revealed problems with our current centralized clearing systems - such allegations of “rigging” (LIBOR), manipulation (currency), and stock market latency inequality (highlighted in books like Flash Boys: A Wall Street Revolt, by Michael Lewis).   

Money has been digitized for 40 years in the form of wire transfers.    Why not investment securities, commodities and ultimately fiat currencies?  The digital revolution for commerce began in earnest in 1996 with the development of the hypertext transfer protocol (HTTP).  The commercialization of PayPal as a non-bank digital payment protocol came in 1998 – the very same year Google incorporated to market it’s search engine, designed to organize the rapidly increasing world of digital information on the world-wide web.   E-commerce app developers leaped into action, and poorly designed products gave us the bust.    But e-commerce didn’t go away, it simply learned from these failures how best to serve consumer demand. 

The world-wide web and e-mail, are technologies that work over internet infrastructure, but those two applications - now integral to personal and business life - are by no means the only platforms for utilization of the internet.   E-commerce is another and distributed ledgers are yet another internet-based platform.  We are just at the beginning of understanding the internet’s transformative potential. 
Crypto currency has great potential if it can be made more immune to counterfeit and fraud, less vulnerable to political manipulation, and function as a globalized store of value and basis for trading.  Poorly designed cryptos, like the dot.coms will surely fail along the way.  But distributed ledgers and crypto-tokens as a platform for trading securities, commodities, properties and even stocks may become significant exchange players in the medium future.   Betting against this may turn out to be akin to betting against Google and Amazon in 2003. 

For more information concerning distributed ledger networks, refer to my July 2017 paper entitled Distributed Networks and Artificial Intelligence, Architecture of the Fourth Industrial Revolution. 

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