Will Slower Growth Cool Minnesota's CRE Boom?

The mood of commercial real estate professionals in the Twin Cities appears to have shifted from an expectation that top-of-the-cycle declines would soon begin to be felt to a more optimistic outlook for the first year of the new decade. A survey of 50 commercial real estate industry leaders, conducted by the University of St. Thomas in May 2019, reported new optimism when compared with results of a 2018 assessment of opportunities and challenges.

Survey Results Signal Stability

Although the overall survey response remains "slightly pessimistic," there are mood upswings in important areas, including a nine-point increase in expected investor return during the coming two years. The survey is designed to forecast movement in the commercial real estate sector over the coming two-year period. Similar questions have been asked of the same 50 industry leaders for the past 16 years. Responses reflect not only their collective experience, but a realistic overview of the entire market.

Local commercial real estate activity extending into 2021 is determined to a large extent by the decisions these development, finance and investment leaders put in play today, according to Herb Tousley, Director of the Real Estate Programs at the university. Even though the overall report points to a slowdown, these industry leaders are not expecting a major downturn. There is still widespread consensus, though, that the current growth cycle is nearing an end.

Rental rates are expected to remain virtually unchanged for the coming two-year period, an optimistic assessment that should continue to fuel planned development. Occupancy rates, however, and continued new space absorption, are cited as concerns, although the index moved to a slightly less pessimistic view in the latest report.

Land price increases and commodity prices for building materials, combined with expected shortages in both categories, continue to worry CRE survey respondents. However, from a financial perspective, local leaders see a continuance of favorable returns for investors, along with the continued availability of project funding and credit for development. There is little indication that lenders will increase loan to value requirements, and interest rates are expected to remain steady. The belief that investor ROI will remain constant moved that assessment index into slightly optimistic territory from a previous pessimistic index.

Population Leveling and Its Effects

Population growth in the state, according to demographers, will come to a virtual standstill in the 2020s, with projected population decline in rural counties and small towns. Even though jobs and people will continue to relocate to larger urban areas, according to the analysts, the expected stall during the first five years of the decade will introduce new economic realities.

Minnesota's climate and midwestern location are viewed as deterrents to growth, and the state's population growth statistics have never been a match for boom conditions evident elsewhere, particularly on both coasts and in states like Texas and Arizona. In some ways, that has been a blessing.

However, current job vacancies point to a different reality, one that forecasters believe won't be solved by an effort simply to attract more people. Population growth trends have a major impact on the economy, and not only in terms of housing and employment. Fewer people contribute to a decline in services and more challenges throughout the entire business spectrum.

Slower growth rates are expected at least for the next two decades, with job market woes reflecting the continued aging of the population. The Census Bureau notes that by 2034, more Americans will be over 65 than under the age of 18. Susan Brower, Minnesota's state demographer, says that without a growing population, economic growth in general will be more difficult. She sees a need to shift people into "more productive jobs."

Other observers counsel that economic growth depends equally on resources, productivity and people. When fewer people are in the mix, growth slows and "people tend to preserve wealth rather than taking risks to create more of it."

Top CRE Performers

Steady is the word most often heard in relation to the Minneapolis CRE market outlook. But "booming" is the word Phil Cattanach, vice president and general manager of Opus Development Company, uses to describe the local market's multi-family and industrial sectors. And he sees no signs of change anytime soon.

In addition, Cattanach and others insist that even the CRE sectors that aren't quite as hot are firmly in the "steady" category. Minneapolis in particular is in a position to attract development activity because it has demonstrated an enviable ability to adapt and scale to meet changing demands. Today, the push is for housing near the urban core, but multi-use new development and innovative re-use plans in suburban areas and fringe locations promise a new cycle of growth.

The overall picture is considered good for commercial real estate, even if the development of the past few years slows. Minnesota, and particularly Minneapolis and St. Paul, remain the shining lights of growth and stability in the Midwest, and that is expected to continue in the new year, and for the coming decade.