Jump Into 2019 Ready: Here Is What To Expect Based On Property Type

Houston has stamped several clear wins and flashed signs of recovery this year.

Next year should be even stronger.

The market was preserved by the lack of a Harvey-like weather crisis, welcomed the development of new trendy food halls, coworking and mixed-use projects and recorded highs for the industrial sector. The office industry showed motions of revitalization, though those dimmed once again with the return of depressed oil prices. 

Looking forward to 2019, citywide job and population growth is expected to help absorb the supply within each asset class, amplify the demand and spur additional development projects.  

Bisnow spoke with industry experts on the major trends to watch next year in each asset class. 

OFFICE

Transwestern Executive Vice President of Office Services Eric Anderson:  

In the last 60 days, sentiment has shifted from extremely optimistic to cautiously optimistic as it relates to notable expansion within the Houston office market. This is due to a late-year dip in oil prices partially driven by and combined with concerns over the national and global economy slowing.  

Since October, the price of [West Texas Intermediate] has dropped from $75/barrel to $51/barrel. However, [The Organisation of the Petroleum Exporting Countries’] agreement to production cuts of 1.2 million barrels per day of oil seems to have stabilized the market in a profitable range. A stabilized energy sector has historically insulated the Houston economy from national corrections.

Therefore, with the caveat that should oil remain above $50/barrel, we expect the office market to see its first year of noteworthy positive absorption since 2014.

Based on the job growth in 2018 and projections for 2019 of 90,000-100,000 jobs, we would typically anticipate significant absorption ranging from 4M to 6M SF, however with the overhang of sublease supply and the efficiencies gained across the board in the energy industry, we believe that growth will be more managed in the 1M to 2M SF range.

In addition, the overriding trend of absorption will be almost completely in Class-A product and primarily occurring in new construction and well-positioned second generation Class-A buildings. Considering the market offers over 57M SF of available office space, this office recovery will leave many buildings struggling to attract users.

We anticipate that stabilized vacancy rate for Houston will begin to trend up from historical averages of 11-13% and will likely level off in a range of 16-18%, similar to those in DFW. The office market sustained quite a bit of damage from 2015-2018 driven by low prices of oil and natural gas, but Houston’s office market should enjoy a solid year in 2019 driven by the energy sector.

NAI Partners Senior Associate Nick Terry:

We will see the Far West market rebound quickly. The Katy/Grand Parkway market actually absorbed 40% of available space, and even the Energy Corridor has posted slight positive net absorption for the year.

In light of those numbers, most of the hottest office submarkets are suburban right now. Peak millennials are hitting their late 20s and settling down, starting families and looking for homes with good schools.

I am increasingly speaking with engineering companies that are moving west to accommodate their employees, who want to spend more time with family and not spend hours of their day on 610 and/or the Katy Freeway.

Tech companies are also booming, and many of my professional services/tech consulting clients are talking about doubling in the next two years. However, because they tend to run so densely in their spaces, it will not lead to a direct doubling of their footprint.

Going forward I think Westchase and Greenway will be interesting. They perform poorly on paper given the large number of big users that have vacated those submarkets, but property-type and infrastructure-wise are not that different from an area like Memorial City/Katy Freeway or even the Galleria. As the citywide office market recovers and tenants lose leverage, those value plays on the outskirts of the traditionally highly desirable markets will begin to absorb space.

MUltifamily

JLL Capital Markets Multifamily Investment Sales Managing Director Greg Austin: 

We expect the market will absorb substantially more units than it delivers leading to occupancy growth and decreased rental concessions in 2019. Houston’s trailing 12-month job growth still exceeds 100,000 jobs. This puts us in a position to absorb 15,000 to 20,000 apartment units in 2019. On the supply side, however, we expect only about 10,000 units to deliver for lease next year.

Industrial 

NAI Partners partner Travis Land: 

The first trend I expect for 2019 is asking rental rates for new speculative industrial product to increase. Quality land tract prices have increased along with construction costs and rising interest rates. There is a considerable amount of speculative industrial space planned for delivery in 2019 to meet the strong tenant demand spilling over from 2018. 

I also expect more design-build transactions for large specialized distribution facilities. Automation implementation is driving end users to evaluate building ground-up to their exact specifications to best handle their inventory flow. 

Retrofitting an existing facility is often not cost-effective for these types of operations and rental rates elevate quickly the more specialized a build-to-suit becomes. I believe these types of specialized distribution centers will be owned by the end user more in 2019 than in recent history.   

Retail

Weitzman Senior Vice President Kyle Knight: 

Houston right now reports one of its healthiest markets. All signs say this balance of supply and demand will continue in 2019. But we do expect a slowdown in new construction, in part because the activity along the Grand Parkway will level off due to the number of large projects completed in 2018 as well as 2017. But there will be plenty of tenant activity, primarily in those categories that are internet-resistant, like food, fitness, entertainment, health and beauty, medical and services.

Redevelopment will increase for well-located older centers in dense areas, like the Heights and Midtown. In an era of low construction like this one, these centers can be modernized to appeal to today’s tenants while still retaining some of the older design elements that create a sense of place.  

We will also see some high-profile mixed-use projects find success in the market, like the Buffalo Heights project with the H-E-B situated beneath apartments.

healthcare

Colliers International Senior Vice President Beth Young:  

Health systems, hospitals and healthcare providers will continue to face pressures to reduce costs while insurance and Medicare reimbursements are declining. To ease pressures and increase efficiencies, there have been many mergers and acquisitions of health systems in the past few years; however, those have slowed down in the past 18 months.

Hospitals and health systems will continue to relocate healthcare services to off-campus locations/properties including ambulatory surgery centers, urgent care, free-standing emergency centers, doctors’ offices and homes.

Up to 90% of new medical developments will be off-campus (not on the hospital campus, and usually in the suburban submarkets). As new hospitals are developed to replace aging facilities, the obsolete properties will be repurposed. With the over-65 age group recently hitting an all-time high of 15.6% of the U.S. population, one of the most popular uses of older hospitals will be long-term care.  

Interest in healthcare property investments is at an all-time high and will continue to grow because of demographic drivers that have heightened consumer demand for healthcare.  

Occupancies in medical office buildings are well above the 10-year average, at approximately 91%; and lease rates are increasing in major markets. Investors and lenders see medical office properties as investments with more stable and credible tenants compared to many office or retail properties.  

Investors will expect to expand their portfolios in the next 12 months. Cap rates have not reacted much to the increasing interest rates — yet. Sellers will continue to expect to see aggressive offer prices while buyers will start to see the difference a higher interest rate makes in loans. 

Expect some adjustment time before buyers and sellers are on the same page. Anticipating that a portfolio will bring a higher average dollar-per-square-foot price, some larger investors will strategize to bundle several well-occupied properties (and perhaps one or more less-occupied [properties]) for a sale rather than selling one property at a time. This will result in many private investors finding that they are unable to compete with REITs and institutional buyers.