2016 Q4 Economic and Real Estate Wrapup and a Look Ahead
In spite of lingering global economic concerns, the U.S. economy continued to expand through the first 11 months of 2016. According to the latest Beige Book, most districts indicated a modest to moderate pace of growth, and the overall economic outlook for the U.S. economy remains positive. Tightening labor markets were reported in seven districts, retail sales and real estate markets are healthy, and the oil and gas markets have expanded, all indications that the market stands on solid economic footing.
Despite an encouraging overall outlook, commodity prices continue to be a source of some concern for the agricultural sector, despite generally satisfactory harvests reported by farmers. Although stabilizing between $40 and $50 per barrel, spot oil prices remain significantly lower compared to the close of 2013, putting significant pressure on energy-related firms. Uncertainty in the energy sector, combined with the strength of the dollar, continues to hold back growth and a more encouraging outlook for the manufacturing sector.
Projecting forward, stability, if not growth, is anticipated in the Twin Cities area. Employment is expected to continue to rise, buoyed by the region’s strong corporate presence. With the regional labor market already tight, wage growth is expected, as employers look to attract new workers and keep existing talent. In the commercial real estate market, the anticipated continued expansion of the e-commerce retail market should continue to drive demand for warehouse and distribution space, while the office market should continue to benefit from local companies looking to move their offices downtown, following the footsteps of companies such as United Properties and Select Comfort. The reconstruction of the Nicollet Mall and the continuing redevelopment of the historic North Loop neighborhood should serve to further facilitate that trend. Anticipated revenue from retail sales tax for 2017 has been reduced when compared to previous estimates, according to a recent press release from the Minnesota office and Budget, indicating ebbing confidence in the retail sector.
Projecting the national economy in 2017 is difficult; as it is not known what impact the incoming presidential administration will have on economic policy. However, the Federal Reserve recently voted unanimously to raise its interest rate for just the second time since the financial crisis of 2008 (from 0.5% to 0.75%), acknowledging recent economic growth and signaling confidence that growth trends will continue, albeit at a slower rate than was anticipated in December 2015. Still, the Federal Reserve appears to be reserving judgment, with the Fed’s Chairwoman Janet Yellen recently saying, “We’re operating under a cloud of uncertainty at the moment.”
Looking back to 2016, the manufacturing sector as a whole continued to keep its head above water, in spite of challenges from some industries within the sector. According to the ISM Report on Business®, the PMI® was recorded at 53.2% in November 2016, up slightly from 51.9% recorded in October 2016 and 48.4% noted in November 2015. In comparison, economic activity in the non-manufacturing sectors expanded for the 82nd consecutive month in November 2016. The following graph presents the five-year historical PMI® and NMI® index readings.
Non-farm employment at the national level increased by 1.6% over the year ended November 2016 on the net addition of over 2.25 million jobs. Job growth in the Professional and Business Services and Education and Health Services sectors spearheaded job growth, with those industries posting year-over-year gains of roughly 588,000 and 576,000, respectively. The following graph presents overall national non-farm employment growth.
Employment gains noted across nearly all major markets continue to put downward pressure on unemployment rates. Nationally, the non-seasonally adjusted unemployment rate decreased to 4.4% in October 2016, down 40 basis points from 4.8% recorded 12 months prior. In comparison, the non-seasonally adjusted unemployment rate in the state of Minnesota stood at 3.2% in October 2016, down 20 basis points from 3.4% recorded in the prior month but up 20 basis points from 3.0% noted in October of 2015. Within the state, unemployment remains lowest in the Mankato market (2.5%), followed by the Rochester market (2.5%), then the Twin Cities and St. Cloud markets (3.1%). The Duluth market, which is more closely tied to the national manufacturing sector, has the highest unemployment rate among the prominent Minnesota markets, at 4.6%. The following graph presents non-seasonally adjusted unemployment rates at the national, regional, and local levels.
Retail sales and real estate markets remain healthy nationally, aiding economic growth. According to the U.S. Census Bureau, retail sales at the national level are up approximately 2.9% year-to-date through October, and while fluctuating in the second half of 2015 and throughout the first half of 2016, consumer confidence appears to be on the rise since November 2016, which Chief Economist Richard Curtin attributes to the “expected positive impact of new economic policies” stemming from the results of the national election. The University of Michigan Index of Consumer Sentiment stood at 98.0 in December of 2016, up from 93.8 in the prior month and 92.6 in December of 2015.
Meanwhile, transaction volume in the real estate markets continues to drive further growth and underlying market fundamentals are generally encouraging. At the national level, the median home sale price in the existing, for-sale residential sector increased to $232,200 in the third quarter of 2016, up 6.0% from $219,100 reported 12 months prior, as home sale activity remained relatively strong. In the commercial sector, fundamentals across all four major property types at the national level remain healthy to improving.
Conditions in the residential and commercial real estate markets within the Twin Cities market mirror national trends. According to data released by the Minneapolis Area Association of Realtors, in the Twin Cities for-sale residential market, the number of year-to-date closed home sales increased by 6.2% through November 2016, while the median home sale price increased by 5.7% during this same period, rising from $220,000 in November 2015 to $232,500 in November 2016. Further indicating healthy demand, the average days on market decreased by 14.7% and the percentage of original list price received increased by 0.9% during this same period to 97.6%, as available inventory remains limited. The following graph presents historical median home sale prices in the Twin Cities market.
The local apartment market is strong, with underlying fundamentals in the Twin Cities apartment market among the strongest in the nation. While new construction activity in the Twin Cities market remains above historical norms, demand continues to exceed the pace of new additions to the existing apartment inventory, keeping vacancy rates well-below the market equilibrium of 5.0% (2.2%, according to Marcus and Millichap) and putting upward pressure on rental rates. Demographic trends are in place to suggest demand for apartment units will remain healthy over the long term, and a decline in the pace of new construction will put upward pressure on occupancy levels and asking rents. Benefitting existing apartment owners and operators, new apartment construction activity may have reached a cyclical peak, as year-to-date multifamily permitting activity is down roughly 10.4% compared to the first 10 months of 2015. The following graph presents historical multifamily construction permitting activity in the Twin Cities market.
The region’s broad-based economy and employment growth continue to facilitate healthy demand within both the local for-sale residential and apartment markets. Non-farm employment in the Twin Cities metropolitan area increased by 1.4% over the year ended in October 2016 on the net addition of about 26,500 jobs. In a similar fashion to trends observed at the national level, growth in the Twin Cities market was strongest within the Education and Health Services and Professional and Business Services sectors, though the third-largest growth sector in the Twin Cities market was Financial Activities, which differed from the national market. These three sectors combined to account for over 97% of job growth in the local market during this period. Further employment growth in the Twin Cities market was held back by year-over-year job losses in the Wholesale Trade, Leisure and Hospitality, and Manufacturing sectors. The following graph presents overall non-farm employment growth in the Twin Cities metropolitan area.
Improvements also continue to be noted within the industrial, office, and retail sectors in the Twin Cities market. Strong demand for industrial space exists within the Twin Cities market and despite an uptick in new construction activity, vacancy rates within the local industrial sector continued to fall through the third quarter of 2016. Demand in the Twin Cities industrial market remains strongest for warehouse and distribution space, yet all industrial segments continued to record healthy absorption. Secular trends, most notably including the rise of e-commerce, are driving much of the demand for warehouse and distribution space. Now accounting for over 8.0% of total retail sales (roughly double the market share posted in 2010) , e-commerce is anticipated to continue rising at a robust pace, and will continue to foster strong demand for warehouse and distribution space in the local, regional, and national industrial markets into the long term. The following graph presents historical e-commerce retail sales as a percent of total retail sales.
Data referenced in this report was current as of December 16, 2016, and includes preliminary figures, which are subject to revision.