At mid-year 2015, the underlying economic support for the commercial property sector is as strong as it has been since the peak of the last economic cycle in 2007-2008. Unlike that peak, there is little of the frothiness of the housing bubble boom and room for even more upside in this business cycle. Looking forward into 2016, what clouds loom for commercial real estate are in the potential for tighter fiscal policy to disrupt the good times.
The principle source of optimism and strong real estate performance has been the labor market. Employment grew by some 3.1 million jobs in 2014, reaching a new historical high for the number employed in the U.S. Coupled with construction volumes that are still some 30 percent below the pre-recession peak, the demand for office and industrial space outstripped supply by a considerable amount. That created good news for occupancy and rental rates.
The July 2 jobs report showed that 1.3 million jobs had been created during the first six months of 2015, dropping unemployment to 5.3 percent. The decline in unemployment was attributed to a further decline in the workforce rather than the rise in employment. While the trend of lower workforce participation is troubling – the 62.6 percent labor participation rate was the lowest since October 1977 – the decline thus far in 2015 has been primarily from people who were fully employed leaving the workforce, rather than unemployed workers giving up.
The job gains occur as consumers grow more confident about the outlook for the economy and their own finances. Consumer spending rose 2.9 percent in the second quarter following an increase of 1.8 percent from January through March., reflecting pent-up response to lower gas prices since mid-late 2014. Consumer confidence showed strength in how people viewed the current situation with less confidence about the future. The Conference Board said June 30 that its consumer confidence index rose to 101.4 in June, up from a May reading of 94.6, but declined again in July to 90.9. The survey of current conditions found consumers registering an index of 107.4.
Consumers are in a better position to contribute to the economy that at any time since the housing bubble in the mid-2000s. Today, however, the consumer balance sheet is much improved. Debt-to-income ratios are lower than have existed for 30 years or more. Home values are improving at a higher pace, beginning to recover the ground lost after the mortgage crisis. Home inventories are low – with little more than a five-month supply available – and new construction has only topped the million-unit mark within the past year. There are fewer obstacles to healthy consumer spending, a driver of 70 percent of the economy.