As the U.S. economy continues to recover, many investors are turning their attention to the potential risk of inflation and how it will impact commercial real estate investments. This month, Ben Vestal breaks down the causes and impacts of inflation and whether self-storage is uniquely positioned to withstand inflationary pressures.
With a new Presidential administration in office, tax planning is becoming increasingly more relevant and important to investors. When it comes to real estate and self-storage it is important to pay attention to newly proposed policies and plans that will have an impact on your investments. The Biden-Harris plan was published as a component of the platform for the Democratic Party and will require Congress to pass it; it will likely have extensive amendments before it is finalized. However, the plan is clearly taking aim at high earners and has many components that will have a meaningful impact on self-storage owners and investors.
The first few weeks of 2021 have confirmed that investor sentiment towards self-storage is at an all-time high. Today, stabilized assets are commanding record high pricing while newly developed lease-up properties and C of O deals are regaining momentum and pricing power, reinforcing that once again, self-storage will emerge from a market disruption as the shining star of commercial real estate. This is largely being driven by the current debt markets and the investment community’s strong desire for yield and assets with low capital expenditures, such as self-storage.
Over the last few weeks, top executives from around the self-storage industry gathered virtually to discuss industry trends, investor sentiment and the overall market outlook for 2021. The consensus is that the industry is experiencing some new demand drivers due to the change in live/work/school environments, the slow down in new developments, longer tenancy and a stickier tenant base, all leading to all-time high occupancy, further fueling investor appetite for self-storage properties. However, despite the positive changes in market fundamentals, most remain cautiously optimistic about the industry’s long-term outlook heading into 2021.
Without question, 2020 proved to be a very unique and challenging year and the anxiety related to the coronavirus made most investment reports irrelevant. However, it is clear that each part of the country is experiencing a different amount of disruption due to local infection rates, local and state mandates and the overall outlook on how we should be handling this disruption. Argus is the only national full-service self-storage advisory group comprised of third-party management, investment sales and advisory services, which gives us a unique, all-encompassing perspective for self-storage owners around the country. Below we have tried to touch on some key points regarding the investment markets and also provide some tips for self-storage owners and operators as we head into 2021.
Ready for some good news? Never have prices been higher for self-storage properties, either in absolute dollars, per square foot, or in relation to the income they produce. Over the last year we have seen self-storage values rise dramatically. For the last several months we have been talking about how the self-storage sector will perform through the pandemic and resulting recession. Remarkably we have seen cap rates compress 10-20 basis points and values on average have risen 1.8%-3.7% in 2020! With all of the hype surrounding the self-storage sector today and a record amount of capital seeking safety and consistent yields, self-storage is once again proving to be a CORE asset due to its long-term performance history in good times and bad. Let’s review three things we have learned in 2020 that will continue to impact the opportunities in self-storage sector.
In today’s dynamic self-storage business environment, many independent owners are forced to compete with larger, better capitalized and more sophisticated self-storage operators. Most owners consider the REITs to be the largest competitors in their markets, but we are now seeing the regional players and third-party management companies grow to a level that leaves the local independent operator with more skilled competitors than ever before. So, the question has become how can an independent self-storage operator take on the giant corporations and large third-party management companies and not only survive but make increased profits? Quite simply, operators need to change their attitudes and become more proactive! Following are four strategies that you can employ to compete and thrive in your local market.
One of the most common themes in my conversations with clients has always been the market valuation of their property and outside factors affecting the investment market. New supply, softening rental rates and rapidly rising real estate taxes have been at the forefront of these conversations over the last few years. Today, however, investors have much more on their minds with the election less than 60 days away, a global pandemic unfolding, and capital gains tax and 1031 exchanges under close review. Now, more than ever, owners need to be reviewing their self-storage investments to make sure they are protecting their valuation. The slow creep of rising operating expenses has put undue downward pressure on NOI growth; a trend that can be seen industry-wide as the five major REITs have reported NOI declines for more than five consecutive years. A small but meaningful review of your operating expense might be the most important in years as we are finding that it is easier to dig in and cut operating expenses rather than grow revenue under today’s market conditions.
The summer of 2020 has been unlike any we’ve known in the past, but fortunately, the self-storage rental season and investment market are alive and well. Despite the stock market’s recent performance and the self-storage rental season showing signs of strength within our industry, I am not confident that the market disruption and recession are over. Please forgive my skepticism, but I am concerned about the lagging effect of historically high unemployment, the impact of disrupting the traditional school schedule, the ever-changing debt markets, and the impact of an election year. The reality that come November we might have a new administration saddled with a tremendous amount of debt, and one that sees the world in a totally different light should not be taken lightly.
The second half of 2020 is upon us and it is now abundantly clear that the COVID disruption is not going away and, in fact, may be just the tip of the iceberg in terms of the problems facing the economy today. In total, nearly 33 million Americans were getting jobless benefits as of June 20th, about five times the peak during the Great Recession. Things have improved since new claims peaked in late March, but spiking coronavirus infections around the country and expiring federal aid means layoffs could increase in the coming months.
It is clear that there is a disconnect between Wall Street and the main street economy. Many unemployed individuals may soon see a large drop in household income as the $600-a-week federal supplement to unemployment benefits enacted early in the recession is scheduled to expire after July 31, barring an extension from Congress, which seems unlikely given opposition. Meanwhile we have seen the stock market reach near pre-recession/COVID levels. I simply don’t see how we can avoid more economic hardship until the country is fully open for business and unemployment is back to more historical levels. We have to believe that some of nearly 33 million unemployed Americans are storage tenants.
Over the last several months the self-storage investment landscape has changed dramatically, largely due to the COVID disruption. We are clearly in an unprecedented time for the self-storage industry where the unconventional and unexpected have become a part of everyday business. As we start to collect data from the industry’s performance over the last 3-4 months, it is clear we are doing better than most commercial real estate and we should all be very thankful that we are in the self-storage business. However, the valuation, transaction velocity, and overall fluidity of the self-storage investment business has been impacted. With that in mind, I have tried to touch on a few topics that have changed during the COVID disruption so that you can better understand how self-storage transactions are being structured today and the associated strategies that are being employed.
After 10+ weeks of quarantine we are starting to settle into the new reality of navigating the investment market in light of the COVID disruption, and it is clear that this is going to take a while to work its way through the system. Like many of you, I have been watching the volatility in the stock market closely in recent weeks as uncertainty surrounds the investment market. Additionally, Argus has been collecting data points with regards to operating metrics, self-storage investment pricing and self-storage market sentiment. On May 13, 2020 we held a webinar with some of the most active and well-respected self-storage professionals in the industry. We held off on hosting a webinar until we could provide real market data points to share with the group and offer real guidance to our clients in these volatile times. Below I have summarized the key takeaways from the session, and if you would like to watch a recording of the entire Q&A please click here. If you have any questions or would like to follow up with any of the panelists, please reach out to your local Argus Broker.
Like many of you, I have been watching the volatility in the stock market closely in recent weeks as uncertainty surrounds the COVID disruption, the new CARES Act and how effective it will be. I’m still not sure if it is a good idea or a bad idea, but I am concerned about the overall market and the fact that real estate loans are getting tougher to find. After twenty-plus years in the real estate business I thought I had seen everything that a market could throw at us, but this time it has thrown everything at once!
The economic environment of the last several weeks has been devastating not only to the stock market but also to the commercial real estate market. Few self-storage owners realize the full extent of the devastation this market disruption has had on self-storage projects because unlike the stock market, there are no daily quotes to tell you what is happening in the self-storage world. While I can’t tell you exactly how much your property value has declined, I can tell you that the average property value is down between 0%-25%, simply based on the change in market sentiment and investor confidence. If your revenues are down as well, the value will also be down by roughly the same percentage as the revenues in addition to the above declines.