Colorado Real Estate Journal - January 6, 2016
Throughout Colorado and most of the country, real estate, in general, was very good in 2015. With 2016 on the horizon, where will real estate head in the upcoming year? Have we hit our peak and will 2016 be an inflection year? What will happen on home price appreciation? How about commercial appreciation? Where will interest rates head? Will oil be a drag on real estate? How will China impact the U.S. economy and our real estate market? Colorado, in general, is in a unique economic situation compared to other states. There is substantial relocation and job growth, which is driving the recent appreciation in both commercial and residential properties. Although Colorado is performing above the majority of other states by various metrics, we are not immune to the national and international factors that could transpire in 2016. There are five main focus areas to watch in the upcoming year: commercial appreciation, residential appreciation, interest rates, oil prices and the China impact. Commercial appreciation. In my opinion, 2016 will be an inflection point for many property types in the Colorado Front Range. For example, on the multifamily side, I don’t think there is much more room to grow. I’ve seen Class B/C apartments trading on 3 caps. As interest rates rise and rents moderate (considerable supply is coming on line), multifamily should start coming back in line with historical norms. The second property type to watch is the industrial sector in many metro areas throughout the state. The primary driver of the increase in this area has been the marijuana demand. As producers transition to lower-cost options (greenhouses) and lower-priced areas (think Pueblo or Trinidad), the premium paid for warehouse space will subside. For the industrial sector, we are at or near a peak. Home price appreciation. The rapid rate of home price appreciation will continue to moderate. A good example of what the rest of the country will experience is occurring in Denver. According to a recent Denver Post article home prices are beginning to cool down. This same trend will play out in markets throughout the country as price appreciations slow down to reality. Although I don’t see signs of the bubble like the ‘06-‘07 recession, I don’t think prices in most markets throughout Colorado will continue on their torrid pace; they will return to more historical norms. Interest rates. The Federal Reserve last month increased the federal funds rate by 0.25 percent. The wild card is what happens in 2016. The most recent recovery is shaping up to be much less robust than past recoveries with wage growth stagnating and little sign of inflation (see oil prices below). This will enable the Fed to take a very measured and moderate approach to rates. I do not expect a major increase in rates over the next several years due to the low inflation measures (many economists polled also think we are in for a period of lower rates). Oil. Oil is a big driver of real estate in many markets (think the Western Slope and some of the Northern Colorado markets) and also a driver of the housing market. With low oil prices, inflation is lower and consumers have more disposable income. (Historically most consumers drove relatively the same amount regardless of gas prices, with the 50 percent drop in prices at the pump this goes straight into consumer spending.) Oil has a basic supply and demand problem. There is way too much supply and demand continues to shrink (vehicles are substantially more efficient today than 10 years ago). On the supply side, there is no hint of supply coming down. In the last OPEC meeting (no surprise to anyone), it appears that the major producers will continue to produce (http://www.bloomberg.com/news/articles/2015-12-06/oil-extendslosses-below-40-as-opec-abandons-production-target). The demand side does not look much better, with increasing fuel efficiency on the horizon. In a nutshell, oil is a double-edged sword. If you are in the business or a market that is dependent on the success of the business, it is bound to suffer. On the other side, the low oil prices will help dampen inflation and also enable higher consumer spending. China. China is an interesting wild card. The Chinese economy will decelerate over time. (It is just not possible to keep growing at their pace). The Chinese will likely go through another round of devaluation to their currency to try to spur the economy, which could have implications on the U.S. China is the largest U.S. trading partner so manufacturing in the U.S. could be in for a wild year. Along with a possible devaluation, the dollar likely will strengthen; as rates rise, the dollar becomes stronger. The stronger dollar makes our exports more expensive to foreign buyers. Along with the possible impact to the U.S. economy with a decline in exports to China, will Chinese buyers also be dissuaded from investing in U.S. real estate? According to a recent study as reported by Bloomberg, the Chinese are now the largest purchasers of U.S. real estate. The Chinese are also one of the largest foreign buyers of commercial real estate. There are two factors that could influence the investment activities of the Chinese. First, a stronger dollar makes their U.S. purchases more expensive. Second, on the flip side, will this be counteracted with a flight to quality? Many Chinese buyers are trying to diversify their holdings out of China into perceived safer markets like the U.S. real estate market. Will the flight to quality offset the stronger dollar? It will be interesting to see how this will play out in 2016, but personally I think the flight to quality should outweigh the stronger dollar. So what does this all mean? 2016 promises to be an exciting year in both commercial and residential real estate in Colorado and throughout the country. There are also a number of macro factors that could drastically alter these predictions. (For example, what if the Chinese economy went into a free fall or there were a large-scale terrorist attack on U.S. soil?) The best advice for 2016 is to stay nimble since volatility in 2016 is almost inevitable.