A NEW LOOK AT THE METROS OUT IN FRONT IN 2019: Top 5 Phase I ESA Markets by Size

Late last month, I delivered my mid-year market update, highlighting key trends in commercial real estate this year—and what that’s meant for the volume of Phase I environmental site assessments across the U.S. The ranking of metros sustaining the strongest long-term growth generated the most interest during the live event so I will share those findings here, and explain how they tie into broader market trends this year.

A STORY OF MIXED SIGNALS IN 2019

After a slow first quarter, the commercial real estate market rebounded in the second quarter, benefiting from a number of positive forces, including:

  • The 10th anniversary of the start of the U.S. economic expansion, officially now the longest growth cycle in U.S. history
  • Still-positive GDP growth and job gains
  • Healthy CRE fundamentals across all asset classes and most metros
  • Valuations that sit near historically-high levels…and, in many metros, still rising
  • Plentiful debt capital, as well as private equity dry powder, looking at U.S. property investment

The not-so-good news in 2019’s story thus far is that growing areas of concern and uncertainty began to weigh more heavily on the market—and on investors’ sentiment, including:

  • Rising construction costs, shortage of labor
  • Growing trade tensions, tariff concerns
  • Delays in the release of federal tax guidance led to a muted impact of the much-hyped OZ program
  • The waning impact of federal tax benefits (which was a big part of the ‘18 story)

Also, don’t forget that we started the year with a 35-day federal shutdown that adversely impacted 1Q performance.

A CLOSER LOOK AT THE PHASE I ESA MARKET

At midyear, I reached out to a handful of environmental consultants to see how 2019 was shaping up, and these are the sentiments they echoed:

“We had a slow 1st quarter then a definitive ramp up in the 2nd quarter that’s continuing through the summer.”

“Our Q2 has been much better than Q1, but still below company-set goals.”

“We had our best 2Q in 11 years. The market appears to be flush with new deals in 2019.”

The feedback jives well with what the market experienced this year. After a slow 1Q, Phase I ESA volume increased 11% in 2Q, but not robustly enough to outperform the strong first half of 2018. At midyear, the U.S. Phase I ESA market registered a moderate 4% decline compared to last year.

What’s notable, however, are the significant differences by metro. Investors are actively investing in commercial properties, but are being much more selective in their quest for yield in a late-cycle environment. In demand are deals with the strongest value-add potential, and in metros where prices still have room to appreciate and where there is strong demand for office, retail, multifamily and industrial space. This trend is drawing investors into secondary and even tertiary markets.

A look at our ScoreKeeper model sheds light on how this trend is impacting Phase I ESA market trends. For this analysis, the 100 MSAs defined in the model were divided into quartiles that define Phase I ESA metro size categories as primary, secondary, tertiary and micro metros (see table below map).

Rather than looking solely at YTD performance, this analysis looked over the past eight quarters to rank the five metros in each size category that have been sustaining the strongest long-term growth rates. The top five in each category are shown in the accompanying map.

The largest Phase I ESA markets with high-growth patterns (denoted by green circles) are: Miami, Houston, LA, San Diego and northern New Jersey. These five metros all achieved double-digit growth over either quarters back to 4Q17 versus the 5% average growth across all 25 of the primary metros in the model.

At EDR’s PRISM event in Nashville (a high-growth secondary market), keynote CBRE’s Spencer Levy noted that large investors are migrating away from big metros into smaller ones that are new and hip and attracting top talent.

“The new city money is flowing into secondary markets that have these things: talent creators, talent attractors and live-work-play developments.”

~CBRE’s Spencer Levy, keynote at May 2019 PRISM conference

In New England, it’s worth noting that three of the strongest secondary markets (blue circles) are within a few hours of NYC and Boston, reflecting that investors’ eyes are moving toward opportunities in Hartford, Providence and Stamford—and even to smaller Portland, ME—cities that may not be as competitive and offer more potential for a strong ROI. Others like Nashville and the smaller Columbia, SC metro are making headlines as the new developing technology hubs attracting real estate investment attention.

Looking ahead, there are strong reasons to expect a slightly busier second half of 2019 that continues the trends of the second quarter–unless of course the economy weakens more quickly than most analysts expect. Certain areas of the country, particularly the 20 metros on the map, are presenting opportunities for buyers and owners looking to sell or refinance real estate assets. Other metros that are also performing well of late, and may likely make the year-end 2019 high-growth ranking include Austin, Denver and Atlanta.

MISS THE WEBINAR?

If you missed the webinar, NAVIGATING THE CREST OF THE RECOVERY: What to Expect in the 2nd Half, listen to the replay for more details on this year’s trends and my take on the near-term outlook.