Article by Larry Goldman, CCIM and Ben Vestal
Argus Self Storage Sales Network
Storage should continue its historically long run through 2020. On the positive side, 10 year treasury bills are well below 2% in February, 2020 and strong operating performance continues to drive both experienced investors and new players to the industry. On the negative side, overbuilding continues to be a concern in many markets, notably Kansas City. Having said that, we expect 2020 to continue traits we saw in 2019. Below are a few industry trends that will shape the self-storage investment market this year.
Stabilized deals are still the gold standard in self-storage investments. We have seen little to no cap rate expansion for stabilized deals in good markets. There is meaningful buying competition for stabilized self-storage assets today which is driving prices to near-record highs. 2020 will prove once again that stabilized self-storage deals are a very durable and constant income producer.
After exhibiting an incredible pace of growth over the last several years, the self-storage industry is showing signs of slowing to a more sustainable pace in 2020. Cap rates and values in most markets are expected to be flat and not compressing further. However we are also not anticipating any rise in cap rates as there is still worthwhile demand and bidding competition from qualified investors. However, some sellers who hold out for the final dollar will be left wondering what happened when the investment market officially turns downward. Remember, it is better to be a year too early than a day too late!
Lease Up Deals
2020 will be the year of the lease up deal and we expect to see a number of deals in lease up coming to market. Many developments around the country that opened in the last 6-24 months are not achieving the rental rates they projected. In many markets rental rates are off by as much as 20%-30% and this, along with slower than anticipated absorption, is beginning to cause concern for some owner/developers. This is compounded by the rising real estate taxes and rise in operating expenses that self-storage properties are getting hit with in many markets around the country.
Most of the new self-storage projects that have been built this cycle are multi-story and located in major markets with strong population and job growth. These projects will stabilize, but the question is when? Most self-storage developers underwrite 2-3 years to stabilization. In reality, it may take some of these new projects 5+ years to stabilize due to the large number of new projects that have been built this cycle. This puts owners who are overleveraged or undercapitalized at a meaningful disadvantage and creates opportunity for buyers with long term investment horizons. This is the biggest value-add opportunity in the industry today, but it is not for the faint of heart!
New Buyer Profile
New buyers of storage are entering the market from other property types. Word is out that the storage sector offers excellent returns without many of drawbacks of retail, office and hospitality. While demand drive values, there is more fickleness than when storage buyers were largely experienced storage operators building scale.
We are all aware of the development boom that has occurred over the last several years in major MSAs. Interestingly, our analysis of many secondary markets shows that rental rates are higher and growing faster than the those in the major MSAs that have taken on new projects over the last 12-24 months. This has presented the opportunity for a “Back to Basics” approach to self-storage development in these secondary markets. Much like the first-generation projects that were built during the 80s and 90s, these new secondary market developments will typically pencil to a 9%+ unleveraged yield upon stabilization (85% occupied). This has also encouraged the development of RV & Boat storage deals or a hybrid of self-storage and RV & Boat.
Yield Curve Flattening (Interest Rates)
The yield curve (the difference between short and long-term rates) has flattened out in recent weeks. That’s typically been a sign of slower growth ahead. The bad news is that the gap between the Two-Year and Ten-Year-Treasury yields has been inverting. Inversion is when short-term rates are higher than long-term ones, and this has occurred prior to every US recession over the past 50 years. The spread hasn’t been this narrow since just before the Great Recession.
However, when that switch is flipped, history shows that the economic prosperity doesn’t necessarily end right away. The lag between inversion and recession tends to be lengthy, ranging between 14-34 months. The last time the yield curve went upside down was 2005, a few years before the Great Recession. The recent flattening of the yield curve has created an opportunity, maybe the last opportunity, to lock in low interest rates or high sale prices in this cycle. One thing that is clear today and has been for the last 50+ years is that the value of real estate is directly tied to the cost of debt and that is what makes the game worth playing.
Meanwhile, the phone has been ringing off the hook with owners wanting to find out what their property is worth. In some cases, their interest is only curiosity, but in many cases, they are interested in financing, estate valuation or selling. Argus is now offering a Sales Comp Report that evaluates historic pricing trends. Argus has tracked and inventoried more than 1,000 self-storage sales comps for 2019 nationally and we were involved in more than 100 transactions nationwide in 2019, which puts us in a unique position to advise our clients. If you would like to receive this free report, please let us know.
Larry Goldman, CCIM, is the Arkansas/ Kansas/ Missouri affiliate of the Argus Self Storage Sales Network, as well as the President of the Kansas Self Storage Owners Association. Larry can be reached at 913/707-9030, at firstname.lastname@example.org
Ben Vestal, President of the Argus Self Storage Sales Network, can be reached at 800-557-8673 or email@example.com