CRE's Top Ten Issues Affecting Real Estate

Welcome. This is the Insider's Edge to Real Estate Investing with James Nelson, the principal and head of Avis and Young's Tri State Investment Sales Group. In this program, you'll learn game changing strategies to outperform the market. James will teach you how to source, execute and capitalize on the best real estate opportunities in New York and around the world. Now, here's your host.

Welcome to episode number 122 of the Insider's Edge to Real Estate Investing. This is your host, James Nelson. I am principal and head of Tri State Investment Sales for Avison Young. Thank you as always for joining. If you've been tuning in these last few weeks, I guess, well, do people tune into podcasts? I think they download the podcast. So, yes, if you've been working your way through the series, you know that we have been covering the steps that are going into the book. Yes, you heard that right. The book entitled the same as this podcast, which will be coming out in January that I'm working on with my writing partner, Rachel Hartman. So we will continue that series on the next show. But we have a very important program for you today. And with us we have Marilee Utter, who is the global chair of the Counselors of Real Estate, an organization that I am proud to be a part of. Uh, we're very lucky to have Marilee leading us at this time. She's the president of Citi Venture Associates in Denver, Colorado, where she advises clients and municipalities on public private partnerships, urban and transit oriented development and organizational strategy. And we are going to be talking to you today about the top 10 issues affecting real estate. And if you are a listener and fan of the show, you know how important it is to stay up to date, stay ahead of these trends. And that's exactly what we're here today to talk about. To give you these issues facing our industry, but also where are the opportunities? Right. So we're going to have Marilee come on shortly. I'm going to be interviewing her. But again, this is an incredible organization that you're going to want to check out@cre.org the counselors of real estate practices in 21 countries, over 60 disciplines. There's over a thousand commercial real estate advisors help compile this report. So this is really what you need to know if you're going to be transacting in this market.

Market.

So we'll have a brief word from our sponsor and we'll get right into.

That interview with Merrilee Utter.

Thank you.

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Hi everyone. I am incredibly pleased today to be debuting the Counselors of real estate's top 10 issues. This is the 11th year they are doing this and yes, they are debuting it on our show the Insider's Edge to Real Estate Investing. And with us today is Merilee Utter who is the global Chair of the Councilors of Real Estate. So Merlee, welcome. Thank you so much for joining us today.

Thank you. My pleasure.

So I know we have a lot to talk about and very excited to be covering these really important issues and not just talking about what some of the challenges are, but we're also going to be talking about where some of the opportunities might lie to make sure that our listeners here are aware of the opportunities that exist in the market as well. So maybe for starters, if you, if you could tell us a little bit about cre. I'm a proud member. So you can tell us a little bit about our organization makeup and how we went about creating this list.

The Counselors of Real Estate is a global organization association, pretty small, about 1,000 members around the world. It's by invitation only and really targeted at the top thinkers and analysts and and advisors in the real estate world. It covers all disciplines within the industry and we come together to build our professional expertise, help each other also give back to our communities.

Wonderful. And I know having that expertise from around the globe because we're going to be talking about a lot of global issues today, that's going to be one of the themes is you need to be aware of what's going on out there. And so, so to be able to source that from our membership and compile this list I think is incredibly helpful to have the perspective. So let's go ahead and dive right in. So at the top of the list and this should not be a surprise for our audience out there is inflation and Interest rates. We have not seen inflation increases like this for at least four decades. So it would seem now that the Fed is singularly focused on this, this situation. So can you shed some light on this topic and how it's going to impact the commercial real estate market?

Well, as you said, it's really unprecedented, pretty much in our lifetimes. There are so many factors impacting it that we're not used to. And maybe one way to think about it is it's closer to wartime situations than it is our recent economic cycles. Maybe that isn't that. The context needs to be changed here. If you think about wartime, you have labor shortages, you have supply chain problems. That means that you need to reduce production and yet demand is high. And what do you get? Inflation. So as we're navigating these waters, you know, we're making it up as we go and I think the Fed is too. And obviously they're taking aggressive moves now to try to get to a soft landing. Whether we can do that. I mean, that'll take a really fine touch. Nonetheless, I think the view is there's so much strong demand, consumption is really good, and that 70% of our GDP in America, so that we expect a pretty soft landing probably in a two years, one year, not a really deep recession, not really violent coming back and landing pretty well.

That sounds wonderful, all things considered. Yes, we've been through some difficult times, as you said, unprecedented. But what would you say as far as commercial real estate values as velocity in the market? Any thoughts on that?

It's going to depend, you know, what you're experiencing in New York City, very different when people are experiencing in Albuquerque or in Des Moines or in Denver, where I live. So it's going to depend on the asset class, it's going to depend on the location. But there's a surprising strength still carrying on a lot of cranes out there in a lot of markets, not everybody. There's still winners and losers. So you need to be careful.

Yes, and I couldn't agree more that it's very challenging to paint the commercial real estate market with one brush. I mean, it's clearly geography. But you mentioned asset classes. And when you have inflation, I think up 9.1% this past month, you look at assets where you're resetting leases every year, like multifamily. And we've also seen some unprecedented rent growth. Right. So getting into asset classes where you can outpace inflation. Whereas, you know, look, some of these longer term triple net assets, you know, thinking about those 10, 20, 30 year leases that, that are flat. There's going to be no doubt some upwards pressure on cap rates.

There's. And I think you're going to see a trend towards more flexibility just because of what we're going through being so unprecedented, so hard to predict. And we don't know where the next black swan is coming from.

That's right. So maybe we'll start seeing a lot more shorter term leases. I don't know how the banks will feel about it, but. Okay, well we'll move right alongside and we've got nine more steps to cover here. And the next is the geopolitical risk, political capital markets, real estate, uncertainty. Again, so much going on out there. The war in Ukraine, the supply chain issues with the COVID lockdown in China. What should our audience be focused on right now?

Well, I think the best thing to say is to pay attention. You know, it used to be certainly for large markets like the US and North America that that was out there. But what we're seeing is it's here now. And while real estate, we all focus ultimately on the local market, that's so important in our own backyard. Well, guess what? These impacts are in our own backyard. And we're having a lot of commodity shortages because of the various disruptions going on with those commercial commodity shortages. Those are impacting us. So the food shortage that's being created out of Russia and Ukraine for instance, is really hurting our prices. Other places it's an eating crisis. I mean it's a real food crisis for us. We're seeing price vicissitudes and so on, but pay attention.

Yeah, and there's so many implications. Rising energy costs. It's another one certainly to look out for and that there might be. I know we're going to get to that later, but again, I spent, I've been here in New York focusing on this market for close to 25 years and I know certainly for the first half of my career I was really solely focused on this market saying, okay, well this is where everything is happening. And now it's such a. It is so important to understand what's going on around the world. Okay, so we're going to keep moving here. And this is a topic again which will not surprise our office. A lot of our listeners out there have been hearing about the hybrid work and we're going to talk a little bit about the great decentralization and also maybe looking at where the opportunities could be, which is a correction towards resiliency. So where are we with the hybrid workweek right now? And what are the implications?

Well, back to work was our number one issue last year. I mean, we know a lot more this year than we did last year, which is a good thing. And it does seem that hybrid work in one form or another is here to stay. I mean, all kinds of surveys are predicting that workers want more flexibility in the workspace. On the other hand, surveys don't always predict action, so we got to be mindful of that. But it seems to be settling in at about two to three days a week. Give me Monday and Friday to be more flexible kind of thing. So that's going. And that seems to be being well integrated. What it's a big surprise is the decentralization, both the organizational decentralization and the geographical decentralization that we're seeing happen. And that has great opportunities for those communities that are on the receiving end. You know, we've been struggling in the US about what to do about the middle America. What about the smaller cities? You know, you don't have the same supply chain dynamics keeping cities and smaller communities around it healthy because you can be anywhere now with technology. This is really a nice opportunity for those second tier tertiary cities, even where they offer great quality of life, they offer lower housing costs. Another huge dynamic in this puzzle. And a lot of them have been.

Paid very well, benefited, no question. And even being here in New York, and I'm certainly one of the few who's here every day. But yes, I think we are kind of narrowing in on how many days per work that has that live work balance. And I think there's also interesting considerations out there about the type of office properties that attract talent and employees to come every day. And in fact we did a study using a Leesman survey on the quality of the building. And it's interesting, we looked at the same company that had a portfolio across different types of buildings and no surprise, their best return to office took place with the highest Leesman score, which is really a trophy type building that has amenities, that has a lot of the features that we're going to talk about in a little bit with esg. So it's not just geographic, it's also industry, which companies are coming back to the office, but also the quality of buildings and giving the employees a reason to come back.

Absolutely. You'll also see that that really gives an opportunity on the design side for prop tech, for architects, people in our industry on that side. Because creating these spaces, we may see them getting smaller, more highly amenitized to meet the needs of the workers, but that's a theme all the way through is get a better space. And better is different in different places, no question.

Okay, so we are making great progress here. We are on to number four, which is supply chain disruption. I am hoping that we're getting a little better. I know before we were talking about cargo ships being unable to get into the the port and LA and China completely shut down. Hopefully things are starting to move around a little bit more, but still a consideration for developers who have lead time. So how should our listeners navigate these supply chain challenges?

You know, one of the things about the supply chain challenges, besides all the disruption it's caused everybody across our industry and across the economy, it's really gotten the attention now of CEOs and I think it's Alex Partner said 70%, 72% of CEOs are nervous about losing their jobs because of economic disruptions. And so that's taking. It's creating action. They're saying how do we fix this and how do we change this? And so the shift in thinking is going to more towards business continuity than cost cutting and efficiency, which is a big mental shift for US Industry to be doing and what that means. Big impact on warehousing, big impact on how they think about that, where they put it, how big it is. Right. We're going to see, I think, more warehousing closer into cities, not always out there at the ports where things are kind of chaotic right now. We're having more near shoring, more friend sourcing. They want supply chains they feel are more dependable. Things are coming back to the U.S. you know, and I think this is a phenomenon. I keep talking about the US but it's happening globally in other countries as well. Equal, equal trend there. So big opportunity, as you think about that warehousing, it's also going to get more automated, you know, lots of things. So I think as strong as industrial has been for our industry, it's going to get stronger and there's going to be a lot of innovation going on.

That's wonderful to hear and a great point that out of these challenges, again, we're going to develop more efficiencies. So. And hopefully, yes, brighter things to come. So moving right along to number six. And I know these are. Did I miss five? Oh, I didn't mean to miss five. I'm sorry. How could I forget? Energy, sustainability, affordability and availability. Okay, so again, this is one where, yes, there are some challenges, right? Certainly the cost. We talk about some of the insurance pieces and considerations, but we're going to get better buildings out of this. Maybe you could talk a little bit about, about healthy buildings, workspaces. What can we look for in this department?

So energy is a big topic this year. We decided let's really focus on the office building sector and what that means to office buildings. And there's huge pressure from the market, really. And now it's being. We're seeing it in regulation, of course, huge pressure to make our buildings more healthy. That has primarily, primarily to do with H vac air circulation, but daylight, lighting, sound, acoustics, that sort of thing. Open spaces where people can work and then places they can gather. So obviously, big opportunities in the design of spaces and in the, you know, and putting all that in one of the interesting challenges. Well, and then there's also, you know, what about climate change? Let's electrify everything and have backup power. But one of the interesting challenges is that they are in conflict. Lots of times when you do the health and wellness kinds of improvements, it actually increases your energy use. So how do you reconcile that? So one of the big opportunities is in the measuring, in the metering, and there's lots of new innovation and new technology there to help you be more efficient in the energy you do use so that you don't end up increasing your output instead. So I think there's a way to get there. So there's great strategies available for building modifications, you know, in the design side, also in the owners and so on. It certainly points and reinforces your earlier comment about, you know, class A buildings. There's going to be a clear difference in class A building. And so investing in your asset and bringing it up to standards really will.

Pay off, no question. I know. There's also certainly a science behind it. And now developers are looking into how do we create more fresh air within a building, natural light again, giving employees a reason to be there, and also the great impacts to health as well.

That's right.

Okay, so we are at number six. We're halfway through here. So labor shortage strain. So we've done a good job addressing the challenges and thinking about the opportunities. This one is a little tougher because the question is, where have all the workers gone? I believe the statistic in the report was that on one hand, the economy has regained all but about a million of the 22 jobs lost during these initial lockdown. But there are still, I believe, twice as many unfilled positions as unemployed workers to fill them. So why is there this mismatch?

Yeah, there is definitely a mismatch. First of all, it is this mismatch between skills and geography. I mean the workers are out there. Unemployment is what, 3.56%? It's really low. It's as low as it's ever been. And so they're working, but where are they working and what kinds of jobs are we creating and so on. So people want more flexibility. We've talked about that already. They want to live where they want to live and have as much as they can, as much time as they can. So they're picking other industries actually. They're getting better jobs. You know, we've got a lot of quit rates at the lower paid employees. I think 25%. Is 25% up.

Part of the great resignation.

Yes. And it seems to be easing up a bit. I think when the market softens, we'll see less easing. But the other thing is that it's really hit different industries in different ways. So really hard hit has been hospitality, restaurants, health care, brutal on nurses for sure. Transportation, that's our problems there and manufacturing. So different industries are experiencing it. It's not real cheery because, you know, economists have long known that our equipment, our economy is going to change in the 2000s just because of demographics. We knew that in the 22020s the US would go from being a labor surplus to a labor shortage economy. And when you had the pandemic hit, it just made it worse. So we're seeing all those side effects. So we're not going to get a lot more workers between the baby boomers resign, you know, retiring, and we're below zero population replacement level. So low birth rate rate and low immigration, we're not getting more workers. I think the opportunity all this is again, we're going to go to more automation and there's going to be lots of innovation in that direction. How do I keep my production up? It's really important obviously for the country that we do keep our productivity going.

It's such a great point because again, where work can be automated and really leveraging talents. Right. To do higher level work I think will be a good thing overall. It was certainly the theme again of.

More efficiencies, low level jobs where people are quitting.

Yes, yes. So number seven, the great housing imbalance. So back in the 1970s and 80s, there was one new housing unit created for every 1.2 jobs on average. But by the 2010s, that figure had become completely out of balance to just one unit for, for every 2.6 jobs. So we know that we've had a huge challenge keeping up with supply. Right. To meet this demand. And certainly during the depths of COVID I think we had a lot of the millennials end up, go back, move with their parents. But now they're branching out again. So we are definitely in need of housing. So where are the opportunities to do that?

Well, they're everywhere. So build your housing. I mean, that's really the message. Communities without housing don't have workers. You don't have workers, you don't have an industry. So as we look at what's going on, we know that the demand for single family is going to continue. We're building about half of what we need right now, actually a third on the single family. So huge demand for that. And at lower price points, it's so tempting for the development community to always go to the higher price points, more profit and so on. Investors like that. But if you really want to make sure that you have no vacancy, no delay, go for the workforce, housing points. And for some people, that means you might have to get into the public private partnership.

Yes. Which is your strong suit. You can definitely teach us a thing or two about that. It's a lot messier for another episode.

It's a lot messier, but there's an opportunity there. When we look at the rental markets, actually, we're providing only about half of what's needed there. What we see, though, is the demographics on that market are changing a little bit. We're going to see 40% of the opportunity in multifamily in three states. And guess what, California, Texas and Florida. No surprises there. We're also seeing the demographics change a little bit on that. The majority of multifamily of apartment renters are going to be white and over 55 years old. The rest of them, the younger renters, will be much more diverse, racially diverse. So as you think about the product there, you might make some tweaks to it. You know, things to accommodate those demographics.

Certainly a lot of opportunity. And I know we talked about some of these secondary cities before in the earlier point about the, you know, the migration. So I know cities like Austin, Orlando and Phoenix are also having a field day these days. Although they might not like to be called a secondary city, but they're definitely moving in the right direction.

It's hard to call them a secondary study these days. They've really done well. But you're right, that mix of good life quality and lower cost is a winning formula.

No doubt. Okay, so the next one, they've really given us a challenging job to go through. All 10 of these, you could do it. Yeah, we're making great progress here. But this one about regulatory uncertainty. So, you know, you've got local, you've got state, you got federal requirements. It is becoming more and more challenging to develop. So how should our listeners think about that? Especially if they're looking to build new projects? What are the opportunities? Where are areas, pitfalls to steer clear?

Well, first hire a good attempt.

Right.

So that you know where the laws are. Yes, because they are changing all the time and there are opportunities, but you know, there are markets that have different approaches to dealing with it. So New York City, the zoning law, very detailed.

That's right.

A lot of the development is by.

Right, yes.

You come to my neck of the woods, Boulder, Colorado, you know, the barriers to entry are enormous because everything is overthought and the processes take forever. And that isn't to mention all the federal things that are impacting us. So know your market, obviously and pick your markets for those high barrier to entry markets. That's a commitment. If you decide to go there, boy, you can make a lot of money. But on the other hand, it's a, a big investment and a big focus. So just know your market, do your homework.

No question. I was also interested to hear President Obama's comments on the need for density. Right. And that's because part of the challenge of building has been this. Not in my backyard. Okay, that's again, we're going to do another episode on that. We're up to three or four episodes in addition.

So there's actually strategies around that.

Yes, yes, yes. Okay. So number nine, almost there. So cyber security interruptions. And this is something that's kind of been, you know, lurking in the background. Although this is not a so called smart building or Internet of things problem. So what are the challenges here and how do we deal with them?

I mean, we've been talking about the technology improvements for years and it's amazing, amazing. The improvements we've made in decades in all kinds of building systems, all kinds of construction design, every aspect of it. The challenge that we're seeing is that it's kind of a siloed industry. So the design guys do one thing, the management guys do another, the H Vac guys do one thing, the power guys do another. But you actually have these very sophisticated now very sophisticated systems that don't talk to each other. And a lot of the property management is not educated, skilled, up to speed on how to manage it all, integrate it all to prevent cyber security and that sort of Thing. So the first problem is really this lack of expertise. And that I think can be addressed mostly by awareness. And for the property, I mean property management, huge issue, you know, huge part of our industry. So dealing with knowing what those systems are, educating the people at every level in the property management, asset management field really makes a difference. The second issue we've seen come from that is a lot of, a lot of the insurance issues, issues of GL general liability, property insurance do not cover cybersecurity kinds of issues. And so they don't really understand, I mean, how to address it. They cut you out. So paying attention to your insurance and being attentive, you can try riders. Often those lead to litigation. So we're really in a little bit of a do loop on this. But that's the biggest issue because we've seen a lot of of activity lately from Russia, from Iran, from international hostage, you know, pay me ransom kind of people. That's really happening to our hospitals, to our buildings and to interesting a lot to the H VAC contractors that just seems to permeate every building. So paying attention to that, training your property management staff and then what watching your insurance very carefully because cybersecurity is with us.

Yes. And I'm also hopeful with the amount that has been invested in the proptech sector and I might get this statistic wrong. So I'll put it in the show notes how close I was. But I believe the investment last year in prop tech was over $20 billion. So there are so many startups, technology companies looking to solve for more efficient buildings, more secure buildings. So there's a lot of people unfortunately with working on how to solve this. So with that we have done it. This is, Sorry I didn't do this. The David Letterman Top 10. Although maybe we should have the drumroll here. Maybe we could put that in on the edits. But yes, last but not least is ESG requirements forcing change. And again, I think we're kind of coming together with a theme here that we've had tremendous challenges. We're coming out of this pandemic and we're going to get better systems in place, better products, the way people work and live. And this certainly hits on it, which the report addresses these innovations in design and development and the construction of new buildings and certainly the renovation of existing buildings. So maybe you could talk a little bit about that to take us out.

Yeah. What's new this year, because ESG has been around now several years is we're finally starting to see the regulations come and they're coming in the US they're ahead of us, of course, in Europe and there's a lot there too. So we're really seeing the enforcement come. People really have to get serious about documenting, benchmarking and then actually making change. And those regulations are coming too. And that's really the good news is that's because the market is demanding, the regulators are responding to what consumers want to see. And so that's good news in itself from a real estate standpoint. What does that mean? Well, as you said, James, a lot more innovation in design and so on in meeting these needs. The other I think opportunity here is a lot of owners, a lot, maybe the smartest owners are taking the initiative to get ahead and they're documenting on their own before the regulations come. What's the condition of their portfolio? A lot of them are using the Cream, which is a carbon risk real estate monitor and it's designed to meet the standards of the Paris Accord and greenhouse gas emissions. And so they know ahead of time where they stand because a lot of the regulation is right now about the greenhouse gas. So taking the initiative, using the strong design skills that are out there now and building it into your buildings, we're back to that. The better buildings will do better, whether it's residential, commercial or whatever.

No question. And I know New York City is certainly committed to this as well with the Local Law 97 initiative and starting to monitor the carbon out output. So again, some positives that will come out of this and I know that E out of the ESG gets a lot of the attention, but also clearly developments with social factors like diversity as well as health and wellness. And then G, of course the governance comes into play by holding these companies accountable, as you mentioned. So that's a fantastic way to end and merely to let our audience know how do they find the surplus? How do they find out about all the incredible content? And I know that councilors of real estate also put out great programming. So how do they find you and how do they engage?

Well, thanks so much. Well, obviously go to our website, cre.org, pretty straightforward there. But you know, as you said, really quick review here. These are deep issues. Each one of them deserves a much bigger write up. We really invite you to become a subscriber to Real Estate Issues, which is our, I think, very impressive publication that we do every year. There they will be exploring more first more explanation about the product, about the issues that we've talked about, and then really exploring what are the solutions, what do we do what are the opportunities that are available?

Yes. Well that's wonderful and thank you so much for joining us today. This has been an incredible, enlightening discussion.

It's been great to see you, James. Thank you so much.

Wonderful. This is your host, James Nelson of the Insider's Edge to Real Estate Investing. Thank you as always for joining. I appreciate it so much. If you like this episode and how could you not so much incredible information and content here to give you that inside edge to real estate investing. Please share this episode with your friends, your subscriptions, your ratings. We love the get your comments. So if you have not already, please do so connect with me at LinkedIn amesnelson NYC. Thank you. As always.

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