Episode Summary
The Industrial Advisors break down the Capital Markets in our Puget Sound region for 2019 and take a look at where they think the market is headed.
Episode Transcript
Bill Condon: Hello everyone. Bill Condon and Matt McGregor here for another podcast. Going to be talking about the activity on the capital market side and how much demand there is out there and really kind of review the year of 2019 from a capital markets perspective.
Matt McGregor: Yeah, you can catch our podcast on Apple Podcasts, Google Podcasts, and you can always see us on our website, industrialadvisors.com. Welcome to the show. So Bill, on cap markets, it seems like we get about two, three calls a day. Similar theme, somebody's got a bunch of money and looking to place product here. How are you feeling about that? I mean, there's so many firms it seems like, so much money out there. Tell us about some of the calls you're getting and what the activity's like.
Bill Condon: Yeah, lots of calls to place money here in Seattle. I think every single year, Seattle has, and when I say Seattle, I'm talking the overall Puget Sound market, has become increasingly popular for institutional groups and private groups to place money. You look at the market fundamentals and compare it to other markets across the country, Seattle, from an industrial standpoint, is as good as it gets. And certainly, that is in line with the calls that we're getting from a variety of groups looking to place capital in our markets-
Matt McGregor: That's right.
Bill Condon: And aggressive capital in our market.
Matt McGregor: Yeah, it seems to be getting a little more challenging as, obviously we've transitioned over to, I don't know what the total percentage is, but certainly it's an institutional market and every year there's less and less user sales, local investor sales, as those guys have been selling off since 2004, and you've had year over year of those type of transactions and those guys are disappearing and the institutions are holding longer. So it's harder and harder to place money, correct?
Bill Condon: It absolutely is and that's a really good point. I mean, we're selling right now some institutional deals, but we're also selling, for a user, two smaller buildings, a 45,000 footer and a 25,000 footer, and they're being bought by an institution, right? So, even the smaller buildings are being gobbled up by the institutional groups and they're competing with users on pricing, and in fact, they're beating users from a pricing standpoint. So certainly, it's become more and more of an institutional market and private sellers are selling because they believe that pricing is good enough-
Matt McGregor: That's right.
Bill Condon: And we're at an all time high. Right? So, certainly that has driven some of the sales that have taken place along with, on the user side, that, the excise tax increase, that has driven a couple of sales as well.
Matt McGregor: That's right. And let's talk about who's hot out there and what markets are hot. By sales volume, over the last 24 months, CenterPoint has placed the most at 150 million. Certainly, they've been active.
Bill Condon: Yeah. That big buy in Seattle was a great purchase for them. And yeah, they continue to buy deals in close in markets and do a good job of tracking and closing on those deals.
Matt McGregor: Yeah, it looks like they've done four transactions, and this is deals over 5 million on the industrial side, in the greater Seattle market here. So CenterPoint's done, four deals. Market leader by number of transactions is Lift Partners with five, and then you've got TA and Clarion both with three, Prologis and 11 others with two transactions. And then you have a whole ton of people with one.
Bill Condon: And then a bunch of people that would like to have had some tallies in purchases that-
Matt McGregor: That's right.
Bill Condon: Just haven't been able to get in. Yeah.
Matt McGregor: Yeah, to our point earlier, it's endless calls with, "Hey, I've got $1 billion. Need a place in Seattle." Oh, really? Okay. And then going back to the total sales volume by entity, Duke right under CenterPoint with 147 million and change, and then TA, Clarion, Prologis and a few others above 100 million in total placements. So pretty good activity. Certainly we've had, over the last 36 months, huge, huge volumes. Last year, 2008, there was $1.5 billion traded in that year of industrial assets. So, a record by far. Our average is about 650 million. So that was over two times our average. But then this year, I mean, it's been a bit of a struggle. We're at about 450 million year to date and we've only got a few months left, knowing that fourth quarters are hot.
Bill Condon: Yeah. I think we're going to see, and we have about, call it 160 million ourselves, that'll close before the end of the year.
Matt McGregor: That's right.
Bill Condon: So I think that, certainly, the third and fourth quarter are going to be big from a sales volume standpoint. So I think we'll end up where we typically do in positions-
Matt McGregor: But way off last year.
Bill Condon: Yeah, way off last year. We're not going to do that. But I think, from a historical standpoint, we'll be where we typically are.
Matt McGregor: Agreed.
Bill Condon: The other thing I think to look at, from a capital market standpoint, is there are certainly a number of groups that are out there and trying to place capital. The aggression continues to get stronger and stronger from a cap rate standpoint, from a price per pound standpoint. Obviously a lot of that has to do with rank growth, but every time a deal trades, a new record gets set on a price per square foot, right?
Matt McGregor: That's right.
Bill Condon: So, this is becoming the new norm.
Matt McGregor: Yeah. We've seen a lot of caps in the upper three range over the last six, seven months.
Bill Condon: Yeah, and I think that just, again, speaks to the demand to be here.
Matt McGregor: And then pounds per square foot. We're starting to get used to the $200 plus number. Right?
Bill Condon: Mm-hmm (affirmative).
Matt McGregor: I remember the first couple of conversations, people are like, "That's just not happening. That's crazy." But now, I mean, on several of the projects we're selling and have sold, met and exceeded $200 a foot. How are conversations with buyers that you've had related with pounds per square foot?
Bill Condon: Yeah. It's becoming the new norm and buyers get it. And I think that the buyers that are educated on our market know that that number is going to continue to get pushed, right?
Matt McGregor: Yeah.
Bill Condon: So, from a rental growth standpoint, they're bullish and should be, the other part of it is land, right? Look at what land has done in the past-
Matt McGregor: Good point.
Bill Condon: Couple of years, right? I mean, land's doubled. And so-
Matt McGregor: At least.
Bill Condon: Yeah. So, if you're looking at $40 dirt, then certainly 200 bucks a foot makes sense.
Matt McGregor: Yeah, to your point on that, I agree with you. It's probably, in many cases, doubled in the last year. But if you back up and look at some of the stuff that we're selling and others are selling right now, even at $200 a foot, when you look at it, as we talk about in development, it takes three, four, five years to entitle these sites before they deliver. So these sites that were probably bought at $10, $11, $12, today would trade at $40, $45 to build. So when you look at the replacement value, all the sudden, for the price you're buying it, let's just say it's a [inaudible 00:06:05] cap at 200 bucks a foot, you can't find the land, build it with your carry costs at $45 a foot, lease it up, for that price. You can't do it. So why not buy it fully leased?
Bill Condon: Right.
Matt McGregor: I would.
Bill Condon: And if you're going to be here, you have to pay up. And when you look at the last couple of years, everybody that's bought that's set a new record on price and people say, "Oh wow, that was an aggressive buy," they all look pretty good right now. Right?
Matt McGregor: That's right.
Bill Condon: So, I think that when you look from a fundamental standpoint, those buyers that are buying this year, those buyers that are buying next year, will all look good a couple of years down the road.
Matt McGregor: That's right. Let's talk about how to buy in Seattle. We're a really interesting market. You and I started tracking how deals are traded several years ago because we saw a trend of so many off-market transactions that it was crazy. We'll just tell the listeners it was about, for about three years we were tracking it, it was about 61% of all transactions, again, above 5 million, were traded off market. We've seen that now drop to 51%. Why do you think that is? Why you think people trade deals off market?
Bill Condon: Yeah, I think that is a reflection of that being private buyers who have been educated on the market, that understand where pricing has gone and have always kind of had a number maybe in their head, "Hey, I'm a seller at this number and buyers are hitting it," right?
Matt McGregor: Yep.
Bill Condon: And so, they're taking some chips off the table and understanding that they're getting good value for a building and maybe it's time for them to go place that capital elsewhere. I do think that number is going to go down from an off market standpoint, certainly as we become more and more institutional in our market, that number will decrease from a percentage standpoint of deals off market.
Matt McGregor: And it has.
Bill Condon: Yeah, and will continue to as well.
Matt McGregor: For sure.
Bill Condon: Yeah.
Matt McGregor: Mostly because most people that do that, I mean, not to say institutions don't trade off market, but typically they don't, and I would say certainly the majority of these off market transactions are the smaller deals. Right?
Bill Condon: Right.
Matt McGregor: You're not seeing $100 million asset trade off market.
Bill Condon: Yeah. They're the five to $8 million deals that-
Matt McGregor: But it's the bulk of the inventory.
Bill Condon: Sure, sure. Yeah. From our market standpoint, yeah.
Matt McGregor: And I think that percentage is going down because there's less and less local guys, to our point earlier, that it's more of an institutionalized market and every year you're going to have less local buyers to sell inventory.
Bill Condon: Yeah, yeah. I mean, automatic products is a good example of that. Right?
Matt McGregor: That's right.
Bill Condon: A local owner who runs a business trading two of his buildings to an institution.
Matt McGregor: Yeah. It's always interesting when people come here and say, "Oh gosh, Matt and Bill, how do I buy? What do I buy?" And we say, "If you're going to wait, on average, we only have about 24 transactions a year above 5 million. So if you look at it and say 50% to 60% of the deals have been off market, you don't have a lot of at bats if you're only buying on market. So the best strategy is, yeah, certainly chase some of those on market deals, but you better throw and oar in the water on off market deals and try both product types. Otherwise, you're really going to be limited to those very aggressive, fully marketed deals."
Bill Condon: Yeah. And then, it's interesting because even on the fully marketed ones, people have to kick themselves if they miss a deal by $200,000, $300,000, right? You look back and say, "I wish I would have bought it." So it's important to, if you really want to be in this market, you got to be all in and get aggressive and just know that, be bullish on the fact that rents are going to continue to increase and your initial returns might be lower than anticipated, but they'll get to where you want them to be.
Matt McGregor: That's right. Transitioning to what markets are hot, I was surprised, when we started looking at the statistics, to know that Seattle, the closed-end market, 41 million square foot sub market, had the most transactions over the last 12 months with 10. Why do you think that is?
Bill Condon: I think you look at that market and Lift has bought a couple deals Torino's bought a couple deals, CenterPoint of course, and really there's, from a land standpoint, very few opportunities to go buy. So, you look at South Seattle, great from a fundamental standpoint and as we continue kind of the last mile to trend in our market, being closed-end is important. And you look at where rents are at, they're going to continue to go up in that market just because there's very few sites where you can actually build new product on.
Matt McGregor: That's right. Just out of curiosity, talking about hot markets, if you had, say, 25 million bucks and you had opportunities in all the markets to buy, what would you buy? What would you look for and why?
Bill Condon: I would buy in the North Valley and Tukwila, rent in Kent, Auburn. And I'd look for a 100,000 to 200,000 square foot building that I could demise because that's the bread and butter of-
Matt McGregor: Small deals.
Bill Condon: Of our market. Yeah. And I think the North Valley's got the most upside from a rental growth standpoint-
Matt McGregor: For sure.
Bill Condon: Compared to when you look at what South Seattle is doing, the proximity.
Matt McGregor: Right, and Tukwila.
Bill Condon: Yeah. I mean, so I, and I'm always bullish that tenant activity is going to be strong in the Valley.
Matt McGregor: That's right.
Bill Condon: What would you buy?
Matt McGregor: I would definitely chase, to your point, the North Valley because I think that's the biggest rent growth. If you can buy vacancy there or buy near term rollover, certainly I would be all over that because I think you're going to see the biggest rent growth. But one value component that I think is out there is, if you can buy it and it's available, buy shell construction, forwards, pre commits. And the reason why I say that is, again, based on the land costs, a lot of these developers that are building these right now, they take three, four years to entitle the land, they probably bought it for 11 bucks. If you can go buy a shell for ... 160 sounds like a lot, right? But if that's fully stabilized, it's over $200 a foot. So you've got a lot of lift in that. So if you can run around and buy some shells, you can't build them for what you're going to pay for them. So that's where I would buy because that's going to be your biggest value component, in my opinion.
Bill Condon: Yeah. And you also have the construction period to let rents continue to increase. I think, a vacant shell, you're closer, you're 180 a foot, right?
Matt McGregor: You could be. Yeah.
Bill Condon: Yeah.
Matt McGregor: You could be.
Bill Condon: And if it's stabilized, you might be 220 a foot, right?
Matt McGregor: Sure.
Bill Condon: So depending on where you're at, I would-
Matt McGregor: I just think you've got lift there.
Bill Condon: A lot of lift, and the lease up risk is nominal. Right?
Matt McGregor: That's right.
Bill Condon: Because it's going to lease if you're in the right market.
Matt McGregor: That's right.
Bill Condon: Tacoma, north through Seattle, you're going to lease up.
Matt McGregor: That's right. In wrapping up capital markets, I think again, we've got a very, very healthy, I think it's challenging to buy here. To our point, I think you got to throw both oars in the water. By the end of the year, probably hit around 700 million, which is about half of what we did last year, but on par with a normal year. You think any other records are set this year, where do you see that?
Bill Condon: I think that you're going to see some aggressive trades that will happen prior to the end of the year from a cap rate standpoint, in some good markets. I think you'll look at that and say, "Okay, that was an aggressive buy," but then when we look at that a year from now, we'll look back and say, "That was a great buy." Right?
Matt McGregor: Yeah. Yeah, that's right.
Bill Condon: So I think we're going to close out the year strong from a capital market standpoint, with good volume in the fourth quarter.
Matt McGregor: Mostly because that 2% excise tax kicks in.
Bill Condon: Yeah. Yeah. So that has caused some private groups to hit the market-
Matt McGregor: That's right.
Bill Condon: And try and get it in this year. We have three or four sales like that. But I think that we are going to have a healthy close to this year and continued demand going into 2020 from a cap rate standpoint, rank row standpoint, and a just demand standpoint from institutions.
Matt McGregor: That's right. Well thanks for listening to our show today. Get more information on industrialadvisors.com, and as always, you can catch us on Apple and Google Podcasts. Thanks a lot.