SAN DIEGO—Diversity of user is the key to hotel demand in San Diego, a market whose tourism is drive-to rather than fly-to, HREC principal Mike Armstrong tells GlobeSt.com. The firm recently revealed that based on its research, it remains confident that the San Diego lodging market—specifically Downtown—will continue to experience healthy growth. RevPAR Downtown reached above $170 year to date, up more than 8.4% year over year, according to a July report; San Diego Bay-area hotels outperformed all San Diego submarkets in rate with an average daily rate exceeding $275 year to date; and hotel investments remain strong, with the recently opened 96-room Hotel Z selling in July for $33.5 million ($350,000 per key) to Pineapple Hospitality and the Residence Inn Downtown/Gaslamp Quarter selling in February for $90 million ($375,000 per key to Chatham Lodging Trust, which purchased the 240-room hotel on a 7.6% cap rate. We spoke exclusively with Armstrong about the hotel sector here, what's driving it and where he sees it heading.

GlobeSt.com: What are the top drivers for San Diego's hotel market?

Armstrong: San Diego has various submarkets, each with its own demand drivers. Countywide, the demand drivers of leisure and tourism are huge. Occupancies were very strong during the summer months, but we have a high-occupancy market year-round, too. San Diego has a strong and diverse business sector, lots of life science, biotech and technology, very strong corporate business. The Convention Center adds a huge base of business relative to the hotel market, and the military is a strong presence; which includes ancillary businesses like government contractors.

Downtown is very diverse, with the Convention Center being a huge driver of hotel business, and you have corporate demand. Leisure demand is a strong driver because it's close to the zoo, Balboa Park, Sea World, the beaches and all the cultural attractions as well as the ball park. Military demand is also strong Downtown with the shipyard in National City and the military presence on Coronado.

Mission Valley is a more established, mature hotel market with a lot of older hotels like Town & Country which is currently getting a facelift.  And we have seen some new development in that market in the past 10 years. There's also a huge leisure component in Mission Valley. A lot of families stay there, and the summers run very strong. That market is also the next to fill up when you have compression from large conventions Downtown, plus it sees business from large corporate users, USD and San Diego State University as well.

Going north, the next hotel submarket is UTC/La Jolla, which has very strong corporate demand including high-end office and residential. Those hotels do very well, although there's not much new supply or land for new development. The hotels there are older and established, and many have been renovated in recent years. Coming out of the recession, we saw lots of folks, particularly in that submarket, deploy dollars into hotel renovations; it's hard to build there, so you want to have the nicest, freshest product, and that has been able to drive average daily rates in UTC high.

Moving north again, the next market is Del Mar, including Del Mar Heights and Carmel Valley. There's been some development there, including a newer Marriott branded hotel. This is a pretty strong hotel submarket—not as big a corporate market as UTC, aside from Qualcomm, but certainly a good, strong corporate corridor. Mira Mesa, Sorrento Valley and Sorrento Mesa are also corporate markets, but you see more select-service hotels that cater to corporate business in those areas.

North from there is Carlsbad, which has a strong leisure and corporate base—a very diverse base of hotel users. That market includes Oceanside, Vista and San Marcos—those cities have added hotels because they have available land. Carlsbad has become pretty built out, so those cities are pulling corporate demand from Carlsbad.

You also have corporate demand up and down the I-15 corridor; certainly those hotels do well.

GlobeSt.com: How will demand for hotel properties change as we move toward the end of this real estate cycle and into the next one?

Armstrong: The key demand driver for San Diego hotels is user diversity. I remember after 9/11 looking at some statistics because air travel was hampered for months after that date. A very high percentage of San Diego's tourism was drive-in or drive-to business rather than fly-in business. Within a year after 9/11, occupancies were back up because San Diego has so many regional users, including all of Southern California and Phoenix/Arizona. San Diego is a destination for all of these areas, which helps it remain strong. Corporate use is different—people are relying on the airport for that—but the expansion of the airport is helpful. The city of San Diego needs to come together on this for the city to grow. Lindbergh Field is the busiest single-runway airport in the country. It may not be a quick or easy solution, but in the future airport transportation will be huge to this market.

GlobeSt.com: What do you predict will happen with hotel valuations in the next several years?

Armstrong: Valuations are at an all-time high in San Diego. We've seen some record-setting sales. Values are very high at this stage of the cycle across the country as well. Hotels are an operating business and are valued based on income and performance, and they've been performing very well and trading for higher prices—not just Downtown, but all over the county in all sizes and types. Into the future, barring some unforeseen event, the city is very well poised for hotels. I don't see anything derailing the local economy.

GlobeSt.com: What else should our readers know about San Diego's hotel market?

Armstrong: I can't say enough good things about San Diego as a city in terms of diversity and fun things to do. There's great weather here, and there's a reason why we have three of the highest-priced residential markets in the country: Coronado, La Jolla and Rancho Santa Fe. It's a great city, and people love to live here and visit. The icing on the cake would be if we get to keep the Chargers.

We have seen a lot of institutional investors making hotel investments in San Diego. Practically all of the hotel REITs own a hotel in San Diego. So, we have that group of institutional investors and private-equity funds, large Wall Street funds and major institutions that own hotels in San Diego because they have a lot of confidence in the market.