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Friday, April 29, 2011

Q2 2011 Update

By Mark E. Rose (Toronto)

As we close the door on the first quarter of 2011 and look ahead, Canada’s commercial real estate market and economy in general, remain on solid ground.

Though leasing challenges remain in some sectors and asset classes, availability and vacancy rates are firmly in a downward trajectory and putting upward pressure on rental rates.

Canada’s office vacancy rate dipped below 9% to 8.7% in the first quarter of 2011, while the availability rate is approaching single-digit territory, currently at 10.2% -- this is a notable improvement from the same period last year when vacancy and availability rates were 140 and 200 bps higher, respectively.

Robust leasing activity and diminishing large-block options in the country’s major downtown markets have some developers planning for the next development cycle, with announcements imminent in the coming months – this an encouraging sign.

All this is supported by a key ingredient to a sustained recovery -- steady job growth. Canada's unemployment rate finished Q1 2011 at 7.7%, and over the past 12 months, employment has risen by 1.8%, or 305,000 jobs. By comparison, the unemployment was 8.2% in the same period, one year prior.

Improving leasing fundamentals have spurred on investment sales. Investors acquired at total $18.5 billion worth of commercial real estate in 2010, of which $6 billion was deployed in Q4 2010.

Preliminary figures show investment volume cooling in Q1 2011 (with approximately $3 billion in trades), compared with Q4 2010; however, buyers remain hungry for product as they look to take advantage of the continued low cost of capital – the pause is not a concern and simply the rate at which product is being brought to the market.

As is the case with the broader industry, our investment sales and capital market teams across the country are actively pitching and winning new business and are building a strong book of business for the remainder of the year.

Pricing (that is, cap rates) for trophy assets has already surpassed 2006/2007 levels (the previous peak), and cap rate compression is now more closely connected with secondary product and or locations.

Canadian REITs, one of the most active buyers last year (on both sides of the border) continue to take advantage of the capital markets raising a total of approximately $1.3 billion in Q1 2011 -- the largest equity offering of the quarter came from Dundee REIT amounting to roughly $144MM.

Turning to the U.S…..

The U.S. Office market ended the first quarter 2011 with a vacancy rate of 12.6% -- unchanged since year-end 2010.

The country experienced its fourth consecutive quarter of positive net absorption, but a similar volume of space was delivered, keeping the vacancy rate steady.

Service sector office jobs growth over the next year will strengthen the overall office conditions.

In February, 76% of U.S. metropolitan areas reported over-the-year increases in non-farm payroll employment. The largest employment increase occurred in the Washington D.C. Metro area (+75,000). As well, Houston Texas had the 4th largest increase, adding nearly 51,000 jobs.

Some markets are already experiencing more landlord-favorable conditions and tenants who have sat on the sidelines over the last 24 months are stepping back into the market.

Dearth of construction starts will bring further tightening as the supply overhang is slowly absorbed. The U.S. will experience rent growth in select markets for larger tenants.

By February 2011, the U.S. closed $5.9 B in sales of office buildings.

Over the past 18 months, cap rates have contracted on most asset types and real estate has been considered a higher-yielding asset than monetary assets like stocks and bonds, and a prudent use for excess investor cash. As such, we continue to see investor interest rise across all asset types and classes, although the rise in value is beginning to slow its trajectory a bit.

Avison Young foresees a potential increase in interest rates -- which is beginning to look more likely as 2011 progresses.

Austerity plans in local and national government are having difficulty gaining traction, and bond investors are beginning to worry about possible inflation.

In the investment markets, perception rapidly becomes reality and if this condition persists (and the Fed continues to send mixed inflation and policy signals), then we could see a ramp up in funding costs later this year.

This blog has also been posted as an audiocast on the Avison Young web page.

Thursday, April 28, 2011

Playoff Hockey and Entertainment District Development

By Michael Farrell (Vancouver)

I drafted this blog to compliment Walsh Mannas’ Entertainment Centred Development Taking Off in Canada. As noted by Mr. Mannas, the Calgary Flames did not make the NHL Playoffs and I decided to wait until the Vancouver Canucks (with a commanding 2-0 series lead in Round One at the time) advanced to the Second Round by defeating the Chicago Blackhawks before posting the blog so that I could highlight their success to my colleagues in both cities. I did not realize I would have to wait nine days and endure Game 7 overtime to finally make my post! So, without further delay…

Vancouver has similar redevelopment interest in and around its sporting venues, including Rogers Area, home of the Vancouver Canucks and BC Place which will be home to the BC Lions (CFL) and Vancouver Whitecaps FC (MLS).

BC Place is currently undergoing a $565 million dollar renovation which will include a new retractable roof, new seating, seismic upgrades, and a whole host of other changes which are detailed in CTV’s An inside look at BC Place renovations. PavCo, the Crown Corporation that operates BC Place on behalf of the Province of British Columbia, is working to further add to the entertainment experience in and around the stadium by developing adjacent lands. The plans include relocating the Edgewater Casino, owned and operated by Paragon Gaming of Las Vegas, into a 1.2 million square foot development which will also feature two hotels with approximately 650 hotel rooms, restaurants, bars, spa, and convention space.

Aquilini Group, the owner of the Vancouver Canucks as well as Rogers Arena, has received development approval to build a 22 storey office tower on vacant land adjacent to the area. They also hope to build a new practice facility for the Canuck’s which will double as a public arena when not utilized by the city’s NHL Team.

Concord Pacific, the Hong Kong based developer that has been the major force behind the redevelopment of Vancouver’s False Creek Waterfront since the late 1980’s, is working on plans to build out the final stage of Concord Pacific Place which just happens to be right across from BC Place and Rogers arena. Named Concord 2020, the final stage will include several residential towers and add thousands of residents to the area.

Could a successful playoff run help attract additional development to the area?

Monday, April 25, 2011

Real Estate Data in a Google World

By Michael Fonda

At Avison Young, we recognize that business practices have changed. In the 21st century, data is, essentially, free. Real estate services firms, in the not too distant past, compiled and controlled the database of available properties. With the advent of CoStar and LoopNet, that era is gone. Our customers have easy access to data on sales and availabilities. Actual lease rates and terms continue to be difficult to obtain by those outside the circle of real estate market specialists who track this data. But, with the changes being proposed to FASB’s lease accounting rules, it may not be too far in the future when even this information will be easily accessed by the public.

If you have read Steven Levy’s recent book about Google, In the Plex, you know that with Google crawling the web, indexing documents and scanning those documents into their servers, easy access to all types of real estate data is probably only a couple of years away.

Consequently, firms like ours no longer enjoy the advantage of information arbitrage. We are compensated now and will be even more so in the future for our ability to craft solutions for our customers. To do so, we have to take the time to thoroughly understand the challenges our customers face and the implications of the decisions they may make.

John Gerzema and Michael D’Antonio have recently published a book, Spend Shift, which identifies the markers that the post recession consumers use to guide their purchases. Understanding the new data -empowered consumer forces companies to “shift” to a more open and collaborative relationship with their customers. (I should mention that my son, Tyler, worked closely with John and Michael in the research, critical thinking, and production of this book.)

Spend Shift reminds us that that “generosity is the new business model.” I’ll interpret that sentence as meaning the generosity of companies sharing accurate information about business practices, product sourcing, and supply chain issues. For those of us who participated in an economy where data was our company’s competitive advantage, this is going to take a little getting used to. The intelligent participants will, however, survive and flourish. Furthermore, in this era of transparency, the new, more entrepreneurial companies will gain strength by adapting quicker than the well-established companies that have to confront sometimes intractable legacy issues.“The ability of a company to identify with its customers is now a prerequisite for any transaction in the post-crisis age. “

Most importantly, for those of us in the service industry, Spend Shift lays out a road map for approaching selling differently. “More commerce will be conducted on the basis of a pay-it-forward model, where a sale will no longer be instant-or linear. Selling to your customers will require investing in your customers.”

If you haven’t heard of companies like Kickstarter, essentially an on-line venture capital firm, or, what I would equate to as Costco at your doorstep, you owe it to yourself to pick up and read a copy of Spend Shift. When, with the help of Kickstarter, Scott Wilson raised almost a million dollars in less than a month to fund the development, production, sales and distribution of a watch band, you realize we are living in a truly remarkable period of world history.

It’s up to companies like ours to harness the incredible creativity of the many brilliant people involved with information research, so that we continue to bring intelligent solutions to the owners and occupiers of real estate.

Monday, April 18, 2011

Entertainment Centred Development Taking Off in Canada

By Walsh Mannas (Calgary)

Cadillac Fairview’s recent announcement in the Montreal Gazette of their $400M development surrounding Montreal’s Bell Centre defines a unique focus that we are seeing in the commercial real estate market across the country, which is a focus on mixed use, entertainment centred development.

Cadillac Fairview has over the years amalgamated a significant tract of land surrounding the Bell Centre on which they are now envisioning a development that will potentially include office, retail, hotel and residential amenities. This sort of master planning is by no means new, but to see it taking place inner-city across the country is a delight. The Bell Centre development comes at a time when two other major entertainment-centered developments in Canada are moving forward: Edmonton’s Arena District and Calgary’s Stampede Trail.

I think it is interesting to note that these developments/redevelopments have similar attributes, grouping together various commercial uses to increase the vibrancy of the developments throughout the day and throughout the year. All three projects are concentrated around NHL arenas and a portion of their goal is going to focus on attracting game-day traffic towards their sites before and after the games.

I think the fact that these developments centre around NHL arenas is especially poignant for the Calgary and Edmonton developments and truly speaks to the tenacity and forward-thinking nature of the developers there because at least in Montreal the Bell Centre site will benefit from an NHL season which includes the playoffs.

Playoffs or not these developments will be great economic drivers for the surrounding districts and help revitalize their respective nodes. These developments will provide entertainment, retail and restaurant amenities that will keep people downtown and will add to the viability of future inner-city development.

Monday, April 11, 2011

Property Prices and Interest Rates – What’s the Correlation? April 11, 2011, By Amy Erixon

In its most recent market commentary, the Bank of Canada hinted that it plans to resume increasing interest rates shortly. Last Friday the EU central bank made its initial move. Earl commented last week on the delicate matter of controlling inflation without quashing the recovery. This blog addresses what effect interest rate hikes are likely to have on property markets in the near and medium term.

During the last cycle it became conventional wisdom that capitalization rate spreads to bond yields had become a reliable factor in predicting the behavior of property values. Over the decade prior to the recent market turmoil, both indicators trended generally downward. Late in the cycle spreads closed dramatically, widening again during the recent period of highly stimulative interest rates. So we learned that at least in the short run, property valuations are affected by many other capital markets variables.

The chart below, illustrated with US data, shows that over the long run the spread to bonds has not been a strong indicator of short or long term property valuations. During some periods they not even positively correlated (such as in periods characterized by high inflation, 1984-1992). In fact, what the data shows is that over time cap rates for property tend to remain within in a tight range between 7 and 9 %, begging the question – now that we are back into a more normalized range - what does the future hold?


Property buyers still look for stabilized real estate investments to produce total returns (income plus appreciation) around 7-8% after taking into account capital expenses, management fees, positive (or negative) leverage and market volatility. Increasing use of leverage on property as nominal interest rates declined played a role in creating a pricing bubble and subsequent property market dislocation We saw this play out in both residential and commercial property markets in the US and UK among other locations.

There is a broadly held view that interest rates and property prices are inversely correlated, meaning rising rates will have an adverse impact on property values. In the housing market there is a direct relationship between affordability and interest rates due to the high levels of leverage used by most buyers. But the commercial property market includes high, low and moderate leverage buyers and is less sensitive to interest rate changes.

In today’s world interest rate trends tell us more about who is the most aggressive buyer of property, (leveraged or unleveraged buyers) than the nominal market price or rate of change. During early stock market recovery periods, the REITs are aggressive property buyers. During periods of very low interest rates, private high leverage buyers have an advantage. During periods of rising interest rates and anticipated near term inflation, long term buyers and institutions that normally hold significant long bond positions dominate the purchaser population.

So what does the data tell us? First, anticipate a lag at the very least in any correlation of property values to bond yields. Spreads have widened to unusually large levels and cap rates are falling strongly as all types of investors are returning to property holdings from other sectors deemed to be topping out. Second, the advertised benefits of holding real estate in a multi-asset portfolio are not only to provide enhanced return over bonds, but also to provide capital growth which is not closely correlated with the stock market; specifically growth which serves as a medium to long term hedge against inflation.

Unprecedented Inftrastructure Spending in Metro Vancouver

By Michael Farrell (Vancouver)

A recent review of infrastructure projects underway in the Metro Vancouver area for a client helped us understand the unprecedented level of construction currently underway on the regions road and rail system and the resulting opportunities. The provincial Gateway Program and the federal Canada’s Pacific Gateway initiative combine to make up a multi-billion dollar infrastructure expansion for Metro Vancouver which also includes funding from private interests.
  • The South Fraser Perimeter Road (SFPR) is a new 40 km highway slated for completion in 2012/2013 that will connect Delta Port with major highways and industrial nodes in the region. The project was recently featured in Avison Young's Commercial Real Estate Letter (Canada / U.S.).
  • Port Mann Highway 1 (PMH1) replaces the existing Port Mann Bridge with a new 10 lane bridge, upgrades or replaces all interchanges over a 37 km stretch of Highway 1, and adds additional lanes in both directions. Completion is set for 2012/2013.
  • Roberts Bank Rail Corridor Program will replace nine at grade rail crossings with overpasses to expedite rail traffic from Delta Port through Metro Vancouver to the rest of Canada and the United States.
All three projects address bottlenecks in the current system, but also prepare the region for continued expansion of DeltaPort, which Port Metro Vancouver estimates will need to handle 4 million Twenty-foot Equivalent Units (TEU’s) by 2030 compared to the terminals 600,000 TEU existing capacity. The planed Terminal 2 expansion will address some of this required expansion in demand by pushing total capacity to 2 million TEU.

As always availability of large tracts of land for development to take advantage of these infrastructure upgrades are few and far between in the Metro Vancouver region. The Tsawwassen First Nations (TFN) have taken a pro-development approach to 1,800 acres of their land located in Delta near the DeltaPort. Most recently, TFN announced development of approximately 175 acres of this land as retail and commercial space in partnership with Ivanhoe Cambridge, an owner and developer of shopping malls. The TFN master plan sets aside 335 acres for development as a logistics park.

The availability of freehold industrial lands in the region as well as the existing infrastructure upgrades are two topics that will be explored further in our upcoming Fraser Valley, BC Industrial Submarket Report and the Metro Vancouver Industrial Overview.

Monday, April 4, 2011

O’Hare Airport – Runway for the Economy of the Midwest

By Michael Fonda (Chicago)

Although it wasn’t able to land the 2016 Summer Olympics, which certainly was a setback for Illinois, the Midwest and the United States, Chicago moved on. It certainly wasn’t going to relinquish its position as one of the world’s most prominent cities.

The key to continuing Chicago’s status as a preeminent center for world trade is O’Hare International Airport. Although there has been unnecessary political wrangling between the City of Chicago and the suburbs surrounding O’Hare Airport and also between the Chicago Department of Aviation and the major carriers, it appears those distractions are over. The modernization of the infrastructure both on and off the airport is moving forward.

If you have always wondered why “ORD” is the Federal Aviation Administration (FAA) and International Air Transport Association (IATA) call sign for O’Hare, here is the answer. ORD stands for Orchard Field. In 1887, Wisconsin Central Railroad opened a depot on the land where O’Hare now sits. The railroad named this depot Orchard Place. Orchard Place remained an unremarkable farming community until June of 1942 when the Army (Air Corp) and the Douglas Aircraft Company, gearing up for war production, purchased 1300 acres for the production of the C-54 “Skymaster”. The new airfield that was part of the manufacturing complex was named “Orchard Field”.

The Chicago area was chosen because it had a skilled workforce, great infrastructure, and it was in the center of the country and thus less vulnerable to attack by our then enemies (who have now become our close allies and great trading partners). These are attributes that the Chicago area still has today. (Since I’m hopeful that we’re done with attacks, let’s substitute the phrase “natural disasters” for the word “attack”.)

Led by Richard M. Daley, Mayor of the City of Chicago, the men and women who are guiding O’Hare in the 21st Century are well aware of the value proposition that this international airport must deliver in order to continue its relevancy as one of the major centers of global trade. The most immediate and impactful improvement that they are making to the airport is called the O’Hare Modernization Program (“OMP”). When construction is complete for this $6.8-billion project in 2014, O’Hare will have eight new runways (six east-west and two crosswind) which will help reduce the present average flight delay of 20 minutes down to six minutes and will expand airport capacity to 300,000 additional flights annually.

O’Hare is currently the 7th busiest air cargo airport in the United States and 17th in the world. Currently, 90% of cargo ramp service takes place at the South Cargo area. Aeroterm, the world’s largest airport facilities leader, will be augmenting South Cargo by developing 840,000 square feet of ramp accessible warehouse facilities on 55 acres in the northeast corner of the airport. With more ramp access, O’Hare is certain to increase its annual airfreight tonnage from its current 1.2 million tons annually. The 1.2 million tons represents $60 billion in annual trade and 10% of air cargo in the United States.

In order for commuters and truckers to have easier access to airport and avoid traffic tie-ups on the current expressways that serve the airport, in 2007 the Illinois Department of Transportation (“IDOT”) proposed the Elgin-O’Hare West Bypass (“EOWB”), which would route traffic from Interstate 294 on the south, around the west side of O’Hare, and to Interstate 90 on the north. Additionally, after 15 years of inaction, IDOT has proposed to finally connect the east leg of the Elgin-O’Hare Expressway to the West Bypass and to a proposed west terminal for O’Hare Airport. This is a $3.4-billion project, which in today’s economic environment seems improbable, yet IDOT may finally complete the task.

Finally, the Chicago Regional Transportation Authority (“Metra”) has proposed the Suburban Transit Access Route (“STAR Line”). The STAR Line (light rail) would connect 100 suburban communities with each other, the City of Chicago and with O’Hare Airport.

With the O’Hare Modernization Program, the Northeast Cargo expansion, the Elgin-O’Hare West Bypass and the STAR Line, Chicago will continue to be one of the world’s premier business centers and will help to drive economic growth in the heartland of the United States.

What's the Downside?

By Earl Webb (Chicago)

Even in the current market, where cap rates have contracted on most asset types over the past 18 months, real estate is considered a higher-yielding asset than monetary assets like stocks and bonds, and a prudent use for excess investor cash. As such, we continue to see investor interest rise across all asset types and classes, although the rise in value is beginning to slow its trajectory a bit.

 Given that short-term monetary investment yields are still extremely low, what could be causing this slowdown in value accretion? Could the slowdown be caused by notable investor withdrawals from the market? Not likely, since many investors still have (collectively) billions of uninvested real estate dollars. Could it be that supply of product is rapidly increasing? Again, not likely, as supply has certainly increased but not near to the degree of equalizing investor demand. Could it be something that nobody really wants to talk about? Absolutely.

 The elephant in the real estate transaction room is a potential increase in interest rates, which is beginning to look more likely as 2011 progresses. Austerity plans in local and national government are having difficulty gaining traction, and existing bond investors are beginning to worry about possible inflation. Guess what? In the investment markets, perception rapidly becomes reality and if this condition persists (and the Fed continues to send mixed inflation and policy signals), then we could see a ramp up in funding costs later this year. My guess is that a 200 basis point rise in funding rates would cause a rapid ripple effect of corporate slowdown, financial institution capital withdrawal, rising mortgage costs and possible loan defaults, and rising cap rate expectations.

 Here's hoping that policymakers move the austerity balls forward carefully, but steadily, in order to keep inflation down and the markets on a steady recovery path.

The postings on this site are those of the bloggers and do not necessarily represent the views or opinions of Avison Young.