The Case for a Soft Landing

A soft landing could be coming, according to John Chang, senior vice president, national director of research and advisory services at Marcus & Millichap.

“Although many people believe that the variety and strength of the headwinds mean we’re in a recession, and although there are definitely some challenges, the consensus belief among economists is that we are not in a recession,” he said.

In fact, more economists are embracing the idea of a soft landing, or at least pushing back the timeline of a prospective recession into late 2023 or 2024.

The key driver mitigating recession risk is the strength of the employment market.

“It’s really hard to argue that the US is in a recession when we’re adding over 300,000 jobs per month,” Chang said.

With that said different parts of the country are experiencing very different realities when it comes to their local economic climate. There is absolutely a link between job creation and commercial real estate space demand.

Nine key metropolitan areas still haven’t fully recovered from an employment standpoint, according to Marcus & Millichap, and meanwhile, 14 major metropolitan areas now have at least 5% more jobs today than they did before the health crisis.

Dallas-Fort Worth has grown by 9.9% with about 383,000 more jobs today than it did before the pandemic and Austin’s employment base has grown by 14.3%.

Salt Lake City has grown by 9%; Jacksonville, 8.9%; Tampa, 8.7%; Nashville, by 8.6%; and Phoenix, Orlando, and San Antonio have each increased their job count by 6.8%.

“Although the correlation between job creation and commercial real estate demand is imperfect, the five metros that created the most jobs also generated some of the strongest apartment housing and retail space demand,” Chang said.

Metros with weaker job creation that are still enjoying positive commercial real estate demand growth are very large cities such as New York, Washington, DC, and Chicago, “where the sheer mass of those cities has driven net positive household creation over the course of the last three years.”

Marcus & Millichap expects to see significant employment gains, and therefore stronger than average commercial real estate demand in cities like Los Angeles, Dallas, Atlanta, Boston, and Phoenix.

Nonetheless, investors need to consider new supply risks.

“Even though a city may add a lot of jobs and have a lot of commercial real estate demand, it can still have rising vacancy and weakening revenue growth if the new commercial real estate development pipeline is big enough,” he said.

That’s not really a problem for multi-tenant retail, because retail construction has atrophied for more than 10 years, and Chang expects it to remain limited, at least over the short term.

Conversely, multifamily deliveries are expected to reach a record level this year, and that could pose a risk in several major US markets.

Cities like Nashville, Austin, Charlotte, Salt Lake City, and Phoenix are all expected to deliver more than 5% inventory growth in 2023.

“And that wave of new development could weigh on multifamily performance, despite the strength of the local employment market,” Chang said.

Chang said that investors must dig under the surface and assess the demand drivers, the supply outlook, barriers to entry, the local commercial real estate momentum, down cycle risk, and numerous other factors.

“And even beyond that, investors should consider the local submarket and the individual asset itself,” he said. “There are a lot of ingredients to bake in.”