Report on Fundamentals

Our sister publication NREI has a report discussing fundamentals among all commercial real estate sectors.

While the overall trend lines were all weak, differences were apparent between property classes. In the second quarter, for example, apartment and warehouse vacancy rates were flat at 5.8% and 8.6% respectively. Retail vacancies jumped from 10% at the end of March to 10.2% at midyear. And while office vacancy continued to decline, it did so at just half the rate of the previous two quarters (falling 10 basis points to 14.8% during the second quarter).

So are market fundamentals really unwinding? Or is this simply a quarterly lull? The answer won't be clear until at least early 2008. But one troubling sign was tepid economic growth in July. Last week, the Labor Department reported that non-farm payrolls increased by just 92,000 in July, down from 126,000 in June (and 188,000 in May). Monthly job growth through July this year has averaged 136,000, which registered well below the monthly average for that period.

Of course, this suggests that third quarter economic growth may be muted. The timing isn't great, either: As vacancy declines begin to plateau or reverse course, many commercial landlords are finding it tougher to raise rents. In the office market, for example, quarterly rent growth of 2.1% in the second quarter will top out the cycle, reports PPR. Office rent growth is expected to drop off to 1.7% in the third quarter, too. Retail rent growth already peaked during the last quarter of 2006. And quarterly rent growth in the warehouse and apartment markets both peaked during the second quarter at 1.3%.

“As with vacancies, there will be differences among markets,” notes the PPR report, which pegs the following markets and asset classes as faring best over the next few months: Denver and San Francisco apartment, Nashville and Denver office, Kansas City and Minneapolis retail and San Antonio and Memphis warehouse.

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