With some updates on the numbers included, here’s our latest thoughts on the state of the hot market in Southern California as of Q1 2019.
Back in 2015, we weighed in on the decision to buy an industrial property when prices were being bid up due to the short supply of industrial space paired with what seemed like insatiable demand for anything with four walls and a roof.
We must admit that we were wondering if the hot market would soon be cooling off, and we began to worry that buyers would find themselves “out over their skis” having paid too much just to be the winning bidder in what was then nothing less than a buyer feeding frenzy.
Money was cheap. Fixed term mortgage rates were in the low 4% range and SBA financing was readily available, allowing buyers the opportunity to put just 10% down and flat-line their occupancy cost for up to 25 years.
Fast forward to Q1 of 2019, and for all that has changed in the world, things have stayed pretty much the same as far as Southern California industrial real estate is concerned.
With some updates on the numbers included, here’s what we had to say then that we think still rings pretty much true today…
The demand for industrial real estate in Orange County is still running high and that has many of our clients asking us about the sustainability of the run-up in property values that has returned the market to peak levels of 2007. They wonder if it is still a good time to get into the market as an owner/ user. The answer depends on several variables. Let’s take a look at a few of them to shed some light on what might be best for you in the long run.
First, the veracity of any investment can only be determined by comparing it to the alternatives available in the same time frame. If the yield on a ‘no-risk’ 10-year US T-bill is 2.7%, as it is today, it makes little sense to get into an investment that returns just 3%, but carries with it considerable risk. The spread or ‘premium’ over that theoretically riskless asset is what determines the price investors will pay for any particular asset. That premium is subjective and each investor must assess his or her own individual appetite for risk.
So, when it comes to investing in commercial real estate, you must decide what your risk premium must be before you become a buyer? For the most aggressive owner/user buyers, the risk of a price bubble is offset by the low cost of fixed rate capital. Functional utility, efficiency and control over occupancy cost for up to 25 years mitigate the risk of a price correction for business owners who believe they can use a facility for five years or more. That long term perspective emboldens them to pay a price that is higher than the previous sale and even higher than anyone else has ever paid for the same product.
For some, that is just a bit too scary, and they opt for the flexibility that comes with leasing on a short term basis. They are either more risk averse, or they see the potential of being stuck in a building that doesn’t suit rapidly changing space needs as too high to avail themselves of the benefits of ownership. The point is: every business owner must develop a unique risk profile that is based on more than the fact that the real estate market happens to be on a roll. Rather, it has to be built on multiple variables specific to each owner’s unique circumstances, while keeping current real estate market conditions in mind.
Right now, it is becoming more difficult to find quality space, whether you are looking to buy or lease a new facility. The vacancy rate in Orange County and Central Los Angeles is in the 2% range with no signs of increasing. The lack of new construction exacerbates the problem, and that allows landlords to negotiate longer term leases with higher annual rent increases. Thus, more tenants are looking to buy, as the flexibility associated with leasing is compromised by the longer term.
Like every other business owner, you will be facing a real estate decision in the not-so-distant future. Which way will you go? What will you have to choose from when the time comes? How much will it cost? But, most importantly, what can you do now to prepare yourself to choose wisely? We have the experience and resources to help you do just that. Give us a call. We are here to help.