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Moody's Chief Predicts 10% Downturn in Commercial Real Estate: Where Does Fresno Stand?
Edward Smith updated website photo 2024
By Edward Smith
Published 2 years ago on
May 23, 2023

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Tweets last week from a chief economist at Moody’s Analytics painted a bleak picture of the future of commercial real estate nationally, with prices falling 10% from their peak and defaults on the rise.

Mark Zandi, chief economist at Moody’s Analytics, predicted in a series of tweets on May 16 that after banks, “the next shoe to fall in the economy is commercial real estate,” led by multifamily, office, and warehouse properties.

By 2025, Zandi said prices could be down 10% and defaults would rise.

Meanwhile, in Fresno, multifamily, office, and warehouse properties all face unique challenges brought on by the sudden rise in interest rates.

Apartment Transactions Cut in Half Since a Year Ago

Following the record rise in rents in Fresno during the pandemic, the number of investors buying and selling multi-family properties skyrocketed. The peak came in the first three months of 2022 said Robin Kane, senior vice president with The Mogharebi Group, a real estate brokerage specializing in multi-family properties.

Since then, interest rates have doubled and transaction volumes have dipped by half, Kane said.

At the beginning of 2022, interest rates on apartment construction and financing were around 3.25%, Kane said, going as high as 6.25% at the end of 2022. They are hovering at 5.5% to 5.75% now.

But while apartment deals have dropped, that fact comes with a caveat. In anticipation of increased rates, investors clamored to get transactions done in the first quarter of 2022, Kane said, offsetting the standard. Compared to pre-pandemic years 2018 and 2019, volume is similar but still lower, Kane said.

Interest Rates Affect New Builds

The climb in interest rates combined with a looming fear of recession has translated to lagging construction numbers, Kane said.

Where the Fresno market has averaged 850 units under construction over the past five years, only 340 are currently under construction, according to real estate analytics company CoStar.

There hasn’t been a groundbreaking for a complex larger than 100 units since the first quarter of 2022, CoStar reported. Nothing started in 2023’s first quarter.

Rent Increases Flatten Out

Kane said there’s “demand” and there’s “effective demand” for rentals. In 2021, Fresno made national news with the rate at which rents rose, seeing year-over-year increases as high as 19%, according to the website ApartmentList.com.

Now, rent increases are closer to 2% to 3% year-over-year, Kane said.

“What caused the slowing?” Kane said. “I think we got ahead of ourselves.”

Rents were climbing 8% to 12% in yearly rates at a time salaries were only climbing by 2% to 3%, Kane said.

The average rent for a two-bedroom apartment is now $1,668, according to ApartmentList.com.

“I think we started to hit the wall, the ceiling, in terms of what that is,” Kane said.

Renters Look for Value Rather than Luxury

Recessions can be self-fulfilling prophecies, Kane said. With all the talk of an economic slowdown, people have begun counting pennies, he said.

“Once you start comparing, then it’s very easy that the (rental owners) who are out of step of the competition are going to be punished,” Kane said.

Landlords who didn’t need to raise rents, such as long-term owners, rolled back rent increases, putting pressure on competitors.

Most new construction has been luxury apartments. Considering California’s high cost to develop, building units going for $2,500 a month is the only way to justify a new complex, Kane said.

The Rousseau, The Lark, The Row, and Rock Ranch all opened in recent years in the Woodward Park and northwest Clovis areas and all are competing for the same group of tenants, Kane said. There is still demand for luxury units, but complexes are beginning to offer free rent or concessions to fill units, where in the past they didn’t need to, Kane said.

Fresno renters are more concerned about value than luxury, and they’re seeing rents flatten out, says local real-estate expert Robin Kane. (Shutterstock)

Investors Want Stability in Borrowing Costs

But even the nearly 6% interest rate isn’t a deal breaker, Kane said. There is still a lot of investor interest in multifamily, he said. The problem is stability. When the Federal Reserve was raising interest rates to counter inflation, it put pressure on the 10-year Treasury bond, which commercial mortgage-backed securities follow.

Property owners locked in on earlier rates are OK, Kane said, but those looking to buy, sell or refinance are in for a surprise.

Kane hopes statements from the Federal Reserve that rate hikes will stop for the year would come true. In 2022, pegging where interest rates would be was difficult. A lending quote might only last a couple of days before rates changed, Kane said.

The collapse of Silicon Valley Bank also has put a wrench into lending.

Small- and mid-sized regional banks provide 70% of all loans in the commercial property industry, according to Business Insider. When headlines about bank collapses made regular news, regional banks put loan applications on hold to see how much the collapse of First Republic Bank and others would affect banking in general.

“That was a real disruptive factor and that had nothing to do with rates,” Kane said.

Fresno Vacancies for Commercial Office Space Lower Than LA, Bay Area

As average vacancy rates in large metros nationally near 16%, Fresno’s has stayed consistent at 9%, said Bobby Fena, senior vice president with Colliers International.

Colliers’ first quarter 2023 Market Report pegs San Francisco vacancy rates at 23%.

Fresno and Clovis have only 28 million square feet of commercial office space. In the Bay Area, a market much larger than Fresno, 18.5 million square feet have been vacated, due in large part to remote work.

“It’s an absolute bloodbath in those areas,” Fena said.

Facebook parent company Meta announced in April it expects to lay off 10,000 employees this year after 11,000 jobs were cut last November, according to Techcrunch.com.

Twitter, Dropbox, and Salesforce, all with headquarters in San Francisco, also announced major layoffs.

A lack of new construction also has kept Fresno vacancy rates stable.

In 2019, Fena said there were only a handful of buildings under construction — one in the Palm Bluffs region of northwest Fresno and five buildings near Clovis Community Hospital. These new buildings are 100% occupied.

If developers had added 20 buildings, said Fena, it would be a different story.

Clovis Community Hospital Area to Soon Resemble Saint Agnes Buildout

The expansion of Clovis Community Hospital has caught the eyes of medical providers who want to be close by for service. Almost all of the land surrounding the hospital has been sold to names such as Sierra Pacific Orthopedic Center and Sante Health, said Fena.

“You’re going to see, I’d say in the next 12 to 24 months a lot of new office buildings coming out of the ground,” Fena said.

Medical facilities have driven office development with operators seeking owner-occupied space. Larger, specialized groups are looking to put up buildings nearing 40,000 square feet, very similar to office development near Saint Agnes Medical Center.

Bobby Fena, senior vice president with Colliers International, expects to see rapid growth of commercial buildings in the Clovis Sierra Gateway District. (GV Wire/Paul Marshall)

Fresno Home Prices Dropping Back Down to Reality

Zandi tweeted he expects house prices to fall 10% peak-to-trough by 2025. He predicts delinquencies and defaults to increase as well, but given the historic rise in housing prices as well as increases in equity, the housing market will be inoculated against uncontrolled foreclosures.

In April, the median house price dropped 2.8% year-over-year to $413,000 according to the California Association of Realtors sales report. The amount home sellers are getting compared to what they are asking decreased by 3%, according to Brian Domingos, president of the Fresno Association of Realtors, with a ratio of 98%.

The number of homes listed for sale increased 25.6% year-over-year, Domingos said. Homes are also spending longer on the market, up 160% compared to last year.

Mortgage Delinquencies Drop to Lowest Level Since 1979

Mortgage delinquencies closely follow unemployment, Domingos said, and right now, “the performance of existing mortgages is exceeding expectations.”

The Mortgage Bankers Association’s National Delinquency Survey showed delinquency rates dropped 13.5% year-over-year to 3.56% of all loans. This was the lowest level for any first quarter since the survey began in 1979

Industrial Investment Has its Own Problems in Fresno 

“I don’t think we’ve ever seen pricing higher for industrial real estate than we have now and certainly into last year,” said Nick Audino, senior vice president for Newmark Pearson Commercial.

Lease rates and property rates are still high, Audino said. A lack of available industrial has kept prices up. And, with demand still strong, landlords have the edge when it comes to negotiating new spaces.

Some tenants are requesting concessions considering changes in the economy, but with such a lack of land, landlords know what they have, Audino said.

“If there’s nothing else out there, it keeps the landlords and sellers in a pretty strong position,” Audino said.

Demand for Long-Term Projects Decreasing

Where Audino has seen some softening is in demand, but not below what is available.

Developers who would be the ones undertaking projects that would take two to three years are not taking the chances they once did considering the expensive entitlement process.

But demand for warehouse and logistics is still strong, as is the local industrial market and service-related sector.

Vacancy rates have been near-zero and are not changing, Audino said. Unless vacancies rise, there will be no downward pressure on pricing.

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Edward Smith,
Multimedia Journalist
Edward Smith began reporting for GV Wire in May 2023. His reporting career began at Fresno City College, graduating with an associate degree in journalism. After leaving school he spent the next six years with The Business Journal, doing research for the publication as well as covering the restaurant industry. Soon after, he took on real estate and agriculture beats, winning multiple awards at the local, state and national level. You can contact Edward at 559-440-8372 or at Edward.Smith@gvwire.com.

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