CREFW-Summer2015

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CRE Finance World Summer 2015
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through 2019 due to new development and the maturation of the
multifamily cycle. It is for these reasons that we believe vacancy
will rise in the coming years, not because of falling energy prices.
Our preliminary first quarter results show that vacancy held steady
at 5.8% but is up 20 basis points over the past 12 months. Quarterly
rent growth was 1.0%, ranking 13th in the nation. Oil prices have
been declining for nine months but the multifamily market has
remained resilient. Household formation and population growth are
strong while employment growth has held steady despite the hit to
the energy sector. The vacancy will begin to rise, however, as more
and more new supply is completed. In 2014, 10,065 units were
completed, a 1.9% increase in inventory. Reis forecasts construction
to total more than 18,500 units in 2015, increasing inventory by
3.4%. The current vacancy rate should also be viewed in context.
The metro’s long-term average vacancy rate is roughly 9.2%.
Without counting the 1980s, a decade of extreme overbuilding in
the metro, long-term vacancy is about 7.4%. So even forgetting
the recent fall in energy prices, the combination of below-average
vacancy and a significant influx of new supply is already signaling
vacancy increases over the next several years. The fall in oil prices
will not have a serious impact on this market trajectory.
We also believe that Houston’s diverse economy, resilient job
growth and strong population growth will insulate the retail sector
from any major negative pullback from low oil prices. Preliminary
first quarter 2015 results further confirmed our outlook. Vacancy
among Houston’s neighborhood and community centers fell 30
basis points in the first quarter to 11.3%, the eighth largest decline
among Reis’ primary metros. Effective rents also grew 0.8% for the
quarter, almost on par with rent growth exhibited in the multifamily
sector. Annual rent growth is now at 3.1%, the tenth largest increase
in the country.
Exhibit 2
Houston Apartment Supply and Demand Trends
Source: Reis
Office and industrial properties in major energy metros are more
likely to be directly impacted by oil price declines and the subsequent
layoffs in the energy sector. Energy companies and supporting
professional service firms are major users of both office and
industrial space and attached to a significant number of projects in
the development pipeline. With major energy firms like Schlumberger
and Halliburton already announcing layoffs, many planned expansions
may potentially be delayed or cancelled, depressing demand for
commercial space. The key is that for more established companies,
the break-even point for oil is far lower for fracking wells ($35 to
$45 per barrel) than the new, highly-levered entrants that bought/
leased land when energy prices were far higher ($75 to $85 per
barrel). The newer, highly-leveraged firms are the ones that may go
out of business. The bigger, monolithic firms will lay some people
off, but this will mostly be confined to exploration. Still, our office and
industrial projections for Houston have been reduced to account
for the decline in demand.
The negative impact on the Houston office market was already
evident in preliminary results for the first quarter of 2015. Net
absorption was barely positive during the first quarter and was
actually negative in February and March. Meanwhile, construction
was relatively robust for the quarter, resulting in a 60 basis point
increase in vacancy since the end of 2014. This was tied for the
third largest increase in vacancy across the country. As a result
the Houston market’s vacancy rate currently sits at 15.1%, the
highest level since the third quarter of 2011. Moreover, the Federal
Reserve Bank of Dallas noted in the March release of the Beige
Book that some energy firms are seeking to sublet office space in
Houston. And unless a large portion of projects are put on hold,
there is more office space to be delivered in the near future. Over
7.5 million square feet of office space in Houston will likely be
delivered in 2015, representing 19% of all projected completions
due across the nation. In 2016, that figure falls to 16% but the
actual amount of space to be completed is even larger, on the
order of 7.7 million square feet.
For most other metros, a steep decline in oil prices will be a boon
for consumers and businesses alike (particularly in energy-intensive
industries), effectively acting as a tax break. This leads to a rise
in disposable incomes for consumers and a decline in costs for
firms. Retailers should benefit directly when more money remains
in the hands of shoppers and leads to higher sales. This process
was already underway as of late 2014; fourth quarter GDP figures
indicated personal consumption grew at its highest rate in years,
bolstered by the decline in oil prices. However, retail sales growth
has actually turned negative in early 2015. Excluding autos and
gasoline, sales were down 0.1% in January and 0.2% in February.
Much of this decline can be attributed to severe inclement weather
and below-average temperatures across a large swath of the
Low Energy Prices’ Impact Mixed, Multifamily May Be Least Pronounced