RESILIENCE DESPITE HEADWINDS
The U.S. economy enters 2020 in relatively good condition, but waning fiscal stimulus and slowing global growth complicated by an on-going U.S.-China trade conflict are clouding the outlook. Nevertheless, CBRE sees property market resilience through 2020. Expectations of growth are underpinned by lower-than-expected interest rates and conditions supporting consumer spending.
BELOW TREND GROWTH ON THE HORIZON
Economic growth likely will slow in 2020. Factors weighing on growth include lower capital expenditures by corporations amid heightened uncertainty in 2019, slowing global growth compounded by on-going trade tensions and waning effects of fiscal stimulus.
CBRE forecasts growth below the estimated long-term trend—near 2.0%—with U.S. GDP growth between 1.5% and 2% for 2020. Importantly, a recession will be avoided, absent unforeseen shocks, primarily due to monetary stimulus and healthy consumer sentiment.
FIGURE 1: KEY ECONOMIC METRICS
Source: CBRE Research, Q3 2019.
FED TO THE RESCUE
The rapid shift in global monetary policy from tightening to stimulus has caused CBRE to revise its outlook for 2020. The Federal Reserve cut interest rates three times in 2019 and, due to expected slower economic growth, likely will make two more cuts in 2020, lowering the federal funds rate to a range of 1.0% to 1.25%. In addition to rate cuts, various other measures—such as expanding the Fed’s balance sheet by purchasing securities—likely will support the economy via financial channels. This shift in policy will provide enough stimulus to prevent a recession, even as growth slows.
FIGURE 2: FEDERAL FUNDS RATE
Source: Federal Reserve Bank of St. Louis, CBRE Research, Q3 2019.
SHOPPERS DO THE HEAVY LIFTING
Consumer spending accounts for approximately two-thirds of U.S. economic activity. Low inflation, low interest rates, healthy wage gains supported by a 50-year low unemployment rate and strong consumer sentiment provide a reasonably good outlook for consumer spending in 2020. Given macro-economic uncertainties—particularly associated with U.S. tariffs on consumer goods—CBRE sees consumer spending slowing from 2.4% in 2019 to just under 2.0% in 2020. Nevertheless, spending at this level should propel economic activity and support enough job growth to absorb new entrants into the labor market, as well as some workers who voluntarily left the labor force and are now re-entering the job market.
Slowing economic activity and consumer spending likely will limit inflationary pressure. The absence of price pressures will allow monetary authorities to respond to evolving economic conditions. As measured by the Consumer Price Index, CBRE expects inflation to hold steady at 1.7% in 2020.
FIGURE 3: CONSUMER SPENDING VS. GDP
Source: CBRE Research, Q3 2019.
LOWER GROWTH PRESENTS RISK
Some degree of risk in 2020 comes from slower growth, which makes the economy more vulnerable to unexpected shocks such as geopolitical conflict that could cause a broader disruption of commerce. Though we will not speculate on the probability of such scenarios, examples of this include a halt in shipments of goods and commodities through key waterways or an escalation in the U.S.-China trade conflict that disrupts global industries, such as technology.
Due to this level of uncertainty, businesses will generally remain defensive throughout 2020, particularly for industries that are vulnerable to any policy changes after the 2020 election. Additionally, a relatively stable U.S. economy amid a weaker global environment creates conditions for a stronger U.S. dollar. Should the dollar appreciate rapidly, dollar-denominated debt defaults could spike—particularly in emerging markets—creating instability in the global financial system.
CRE REMAINS A GOOD BET
A higher degree of policy uncertainty—be it from monetary authorities, national security or questions surrounding industry-specific proposals—will be front and center in 2020 as the November elections approach. Amid this backdrop, CBRE expects slowing but sufficient growth that will generally support strong property market fundamentals. A combination of resilient economic activity, strong property fundamentals, low interest rates and the relative attractiveness of real estate as an asset class are the primary factors supporting our view that 2020 will be a good year for real estate.
FIGURE 4: BUSINESS CONFIDENCE VS. CONSUMER CONFIDENCE
Note: Circle highlights precipitous drop in business sentiment.
Source: Federal Reserve Bank of St. Louis, Business Roundtable, University of Michigan and CBRE Research, August 2019.
U.S. Outlook by Sector
U.S. GDP growth will slow to between 1.5% and 2% in 2020, down from an average of 2.5% over past five years.
U.S. GDP growth will slow notably next year as various issues create higher levels of uncertainty, including the ongoing U.S.-China trade conflict, slowing global growth and a presidential election. Barring any unforeseen risks, we assess that a recession will be avoided, thanks in large part to the stimulatory effects of the Fed’s rate cuts in 2019. Slow growth will continue in 2020, broadly supporting already strong property market fundamentals.
Investment volume in 2020 should total between $478 billion and $502 billion, making it one of the strongest years on record.
Amid slower economic growth and global uncertainty, U.S. commercial real estate will remain a haven for investment in 2020. Greater investor caution and buyer-seller disconnects on pricing could moderately reduce volume from 2019 levels. Cap rates should be broadly stable, with slight compression for multifamily assets and slight increases for the other major sectors for an average spread of about 260 bps over 10-year Treasury yields next year. Investors should not count on significant appreciation returns, but income returns will remain steady.
Demand for office space will remain strong in 2020. Flexible space inventory will continue to increase, but at a slower pace.
Despite continued positive absorption of office space in 2020, rent growth will slow and vacancy will increase. Leasing activity will remain driven by tech tenants, benefiting markets like San Jose, Austin and Salt Lake City. Flexible office providers will strategically expand their footprint but a drawback by WeWork will significantly slow expansion from previous years. CBRE’s forecast is for 51.1 million sq. ft. in completions, a 70-bps increase in vacancy and 1.6% rent growth.
Absorption gains will be limited in 2020, with available supply outpacing demand. Nevertheless, rents will rise by 5%.
Despite some softening in the industrial & logistics (I&L) market, overall fundamentals will remain strong due to continued e-commerce penetration and demand for logistics space. Rent growth will be driven by newly constructed facilities and infill properties. Although there are potential trade-related risks, resilient consumer spending will buoy the I&L market and mitigate any tariff effects on major hubs relying on port activity.
Total U.S. retail sales increased by 3.5% year-over-year in Q3 2019 to $1.57 trillion, however more modest growth is expected in 2020 to $1.55 trillion.
Total U.S. retail sales growth is expected to slow in 2020, as consumers become more cautious. Positive net absorption and rent growth in most U.S. markets will be spurred by a lack of new supply and thousands of retail store openings. Malls are benefiting from the refreshing influence of Generation Zers, who prefer to shop in stores and are driving traffic back to brick-and-mortar retail. Many retail assets will convert to mixed uses, creating communities and thriving town centers.
The multifamily vacancy rate will edge up by 20 basis points to 4.5% in 2020, remaining under its long-term average of 5.1%.
Multifamily is positioned for continued favorable performance in 2020 but will experience some cooling due to new supply outpacing demand. Completions will match peak levels of recent years. New and potential rent control legislation will remain an industry concern. The best opportunities are in suburban markets, smaller metros and metro leaders, including Austin, Atlanta, Phoenix and Boston.
Interest in specialty sectors will continue, with alternatives accounting for more than 12% of all commercial real estate investment in 2019.
Investment in alternative or specialty sectors has risen steadily in recent years and will continue to attract high levels of investor interest and capital in 2020. Total investment in 2020 will come close to the annual average of $59 billion since 2014 and represent 12% of all commercial real estate investment, up from only 6% at the peak of the last cycle. Alternatives acquisition volume in 2020 likely will match this level.
New deliveries will increase the primary data center markets’ total inventory by 17.3% in 2019, increasing the competition between certain markets in 2020.
The wholesale data center sector continues to evolve as flexibility and agility within IT and real estate strategies drive decisions. Transaction volume remains driven by the adoption of Hybrid IT/multi-cloud access strategies by users. Adding momentum headed into 2020, network connectivity should remain a critical component of overall IT and real estate decisions. Demand will continue as users right-size and adapt their portfolios to handle current and future technologies, such as high-performance computing (HPC) and 5G.