CRE Pricing Edges into Annual Growth Article originally posted on HERE on September 26, 2024 U.S. commercial property prices edged into annual growth in August amid growing optimism that interest rate cuts will rejuvenate the market, MSCI Real Assets reported. The RCA CPPI National All-Property Index rose 0.6% from July, for a fourth consecutive month-over-month improvement, and rose 0.2% from a year ago. Amid a rapid run-up in the federal funds rate between 2022 and early 2023, some property types have performed better on pricing than others, MSCI Real Assets said. Industrial pricing dipped around midyear 2023 but rebounded to post 12 consecutive months of annual growth. In August, the industrial index climbed 6.9%. While CBD office prices continued to post the most severe declines of any sector, falling 27.4% in August from a year ago and 1.5% from July, suburban office fared better. Pricing for these office assets fell 4.7% over the past year and rose 0.5% from July. Apartment prices dropped 5.7% over the past year and rose 0.1% from July, the first monthly increase since July 2022. The retail index grew at a yearly rate of 0.1% and rose 0.3% in August from July, which when annualized would indicate a stronger increase of 3.8%. Eschewing the Headlines to Focus on Demographics and Real Estate Micro-trends make headlines. When inflation increases by half a point, the headlines endlessly debate its effect on the Federal Reserve’s Effective Federal Fund Rates. When unemployment ticks up (and job growth declines), headlines discuss a sluggish economy. And so on. In a recently released video, Marcus & Millichap’s Senior Vice President, National Director, Research and Advisory Services John Chang pointed out the danger of micro-trends in commercial real estate investment decisions. For one thing, such assets come with long-term hold times, five years at the minimum. Chang also said paying attention to analytics rather than headlines is far better. And one of the more reliable metrics in this case involves demographics. Specifically, “investors should pay particular attention to how key demographic cohorts behavior is changing,” Chang said. From Urban to Suburban The median marriage age these days is 29 years, a definite uptick from 20 years ago when the median age stood at about 25 years. Furthermore, “that shift, which was led by the 72.5 million millennial cohort, changed housing demand,” Chang said. Specifically: Millennials in their 20s favored urban core residential and the live-work-play lifestyle Millennials in their 30s and 40s (the majority of the demographic) have gotten married and are starting families “This life change spurred a reinvigoration of the suburbs, weakening demand for urban real estate,” Chang pointed out. While the pandemic shed light on departures from the urban core, Chang noted that the decline had been ongoing since 2015. An Earnings Jump Another issue Chang touched on was earning power. He explained that the 72.5-million-strong millennial demographic will be between 33 and 48 years old in five years. “The reason that’s important is because historically, the peak earning years are between the ages of 45 and 54 years old,” Chang said. In other words, millennials are at the beginning of their prime earning years. Along those lines, the 22 million members of the Generation Z cohort will hit the age of 25 over the next five years. Chang explained that young adults entering their mid-20s see a 47% jump in earnings. “Assuming the labor force participation rates remain relatively stable, the maturation of both the millennials and Gen Z into higher earning age groups should generate a substantial lift in their earnings,” he said. Then there are the baby boomers. Typically, older generations move out of the workforce, meaning a loss of earnings. But Chang pointed out that the baby boom generation will likely work well into their 60s. All told, the anticipated increase in personal earnings is 2% over the next five years. “While 2% may not sound like a lot, it would generate an additional $200 billion of income,” Chang said. “That’s not factoring in any additional forces like population, in-migration, accelerated business formation, the restoring of manufacturing or the great wealth transfer or any of the other major trends that will lift the economy going forward.” Consumption and CRE Chang pointed out that consumer consumption makes up about two-thirds of economic growth. The increase in earnings across generations could boost that consumption. “This trend should, in turn, lift space demand for all types of commercial real estate,” Chang said. “Retail, industrial, self-storage, hotels and housing should all benefit from the positive demographic lift.” Some questions include whether enough Gen Z members will be available to backfill urban residential spaces vacated by millennials. Another issue is where millennials will ultimately end up and whether workers will actually return to the office. As such, CRE investors should steer away from decision-making based on microtrends. “Investors need to look forward, to see past today’s headlines, and deeply consider the forces that will shape commercial real estate demand,” Chang said.