Fed’s Beige Book Shows a Sad CRE Industry

The Federal Reserve’s November 2022 Beige Book came out yesterday. Formally called the “Summary of Commentary on Current Economic Conditions by Federal Reserve District,” the sets of anecdotal evidence gathered by the Fed’s dozen regional banks are not exacting data, but a survey of moods.

Those of the commercial real estate industry show a set of mostly sinking observations, like a collection of gloomy reflections over one wine glass too many. This seemed a logical continuation of the softening pictures that began to pick up steam in June and then onward through the September and October editions.

On a national level, real estate was one of three industries, with technology and finance, that saw reports of “scattered layoffs,” although “some contacts expressed a reluctance to shed workers in light of hiring difficulties, even though their labor needs were diminishing.”

Some of the regions where real estate was highlighted were Boston, Richmond, Kansas City, Chicago, and San Francisco, though reports weren’t limited to them.

Boston’s CRE activity slowed slightly in recent weeks.” Office saw tenants give up space, with vacancies up but rents flat. Industrial rent growth slowed but continued due to a lack of available space. Retail experienced flat rents and vacancies, though demand for small spaces like restaurants outpaced larger ones. “Loans for new construction looked increasingly unfavorable and existing loans faced greater stress.” Residential continued to weaken with falling prices and slower sales, mostly in condos.

New York has a weakening housing market. In and around New York City, single-family and apartment sales fell as inventory remains low. Many sellers have taken their properties off the market given time to sell. Residential rents are down; concessions are up. Office vacancy and availability were up in New York City but unchanged elsewhere. Overall, office rents were up. Construction saw continuing deterioration and new industrial construction is largely gone.

In Philadelphia, new home contracts “plunged.” The construction backlog there won’t last much past the first quarter of 2023. Existing home sales were sharply down and calls for housing assistance are significant. CRE construction was steady though leasing was slightly down. Current backlogs there could last through 2023 but not further and office is a major uncertainty.

Housing demand is down in Cleveland. Many home buyers can’t quality for mortgages. One builder said that Q3 sales were largely worse than in 2008. CRE also softened with rising interest rates and uncertainty about the future—builders don’t know what the next year will bring. Many buyers, particularly REITs, have walked away from the market.

Richmond residential had “reduced buyer traffic and listings,” but days-on-market and inventory, while up, were below normal. Higher interest rates and low inventory took a toll on closed and pending sales, as sellers offered more concessions. Homebuilders weren’t acquiring new lots. CRE felt reduced leasing and higher vacancy in retail, office, and industrial. Class A office kept moving, especially in suburbs as businesses tried to lure workers back. Higher interest rates and construction costs—the latter feeling pressure from labor shortages and continuing supply chain impacts—weighed on new construction.

Atlanta’s CRE markets “reported healthy but slowing market conditions; however, industrial real estate appeared robust.” Slowing activity happened largely in “lower-tier office, luxury multifamily, and owner-operator retail driven by more restaurant closings.” Reports cited worries about values falling in the face of expanding bid-ask spreads.

In Chicago, “construction and real estate activity decreased modestly on balance,” with increased delays and cancellations in single- and multifamily. “One builder said that the market to purchase land for new development had dried up because builders are waiting for demand to come back.” Home values were down and rents up.

Mortgage rates of 7% put downward pressure on home sales in St. Louis. There was also a residential rental slowdown. “One builder said that the market to purchase land for new development had dried up because builders are waiting for demand to come back.” Ongoing construction was strong, but new project demand is down.

Minneapolis CRE is slowing and looks to continue the trend going forward. As true with other regions, construction spending is still up but backlogs for future activity are down. “Vacancy rates in industrial and multifamily sectors remained low despite significant new construction. Retail vacancy rates have declined in some markets thanks to comparatively little new construction. Office vacancy continued to increase.”

A switch apparently flipped in Kansas City where multifamily activity “declined abruptly in recent weeks,” even with “elevated demand” and falling construction costs, due to higher interest rates. The availability of debt financing is lower, “but brokers and builders indicated that private equity and other sources of capital diminished sharply in recent weeks.” Construction activity continued due to project backlog.

Dallas faced a weaker housing market and higher mortgage costs kept contract cancellations up. Buyer incentives pushed prices down and apartment leasing slowed, with rents flat to down. Office leasing was still soft; industrial stayed solid. Higher financing costs are pushing up cap rates.

Finally, San Francisco saw moderate weakening in residential real estate. Prices and mortgage rates depressed interest in houses. “One contact in Southern California noted that potential homebuyers have opted to rent instead, and a Northern California contact reported a change in scope for some single-family construction projects, now built to rent rather than to sell.” CRE activity was largely unchanged. Industrial demand remains strong and demand for office in some areas weakened except for premium space.