Fitch: Tech-Oriented US CRE Markets Cooling, But Not Collapsing

NEW YORK--(BUSINESS WIRE)-- Link to Fitch Ratings' Report: Tech CRE Markets Cooling, But Not Collapsing (What U.S. Equity REITs Are Saying)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=878729

Tech-oriented U.S. commercial real estate (CRE) market fundamentals have cooled but are unlikely to collapse, according to Fitch Ratings. Office and multifamily REITs are most at risk from lower tech-tenant demand in markets such as San Francisco, Silicon Valley, Seattle, New York and Los Angeles. Company exposures vary, but each subsector has West Coast market specialists with concentrated portfolios in these markets.

Retail REITs with exposure to these markets face some risk from cooling tech employment and capital availability but should benefit from longer leases than multifamily properties and less tenant failure risk and shadow space relative to office assets. Fitch sees limited risk for industrial and healthcare REITs beyond the scope for broader regional and local economic softening.

The amount of speculative leasing is a key unknown that will influence the severity of office market downturns due to lower tech tenant demand. Speculative leasing occurs when companies lease more space than then they currently need in anticipation of future growth, typically motivated by concerns over rapidly rising rental rates and limited space availability.

Widespread speculative leasing -- enough to meaningfully affect market dynamics -- is rare. However, it was a key reason for the collapse in office rents in San Francisco and Silicon Valley following the tech bubble burst in the early 2000s. At the time, market participants generally expected the San Francisco market to weather a tech industry downturn reasonably well, since new supply was balanced with demand growth. In hindsight, investors underappreciated the artificial demand boost from rampant speculative leasing by weak credit tenants.

Many of today's fast growing social media and sharing economy companies are using technology to disrupt a diverse set of established industries, arguably making them less cyclically sensitive to changes in corporate capex than the manufacturing-oriented companies that dominated Silicon Valley in the second half of the 20th Century. Indeed, some sharing economy companies such as Airbnb, Inc. and Uber may have counter cyclical business model elements. Fitch expects more people will look to monetize the value of their largest assets, such as homes or cars, to supplement or replace lost incomes during periods of economic and labor market weakness.

Tech company business models today are generally formed around existing technological capabilities. Many of the companies that failed during the dot.com bust proved to be little more than a marketable idea in a white hot capital markets environment. However, some correctly anticipated the future but tried to realize it without the benefit of today's computing power and widespread adoption of mobile technology.

Venture capital (VC) availability remains a cyclical common thread that influences the level of demand in tech-oriented markets. The outlook for VC funding has dimmed during the past year against the backdrop of generally weak tech IPO performance and down round private equity financings and selective layoffs at marquee fast-growing tech companies.

Most tech employment resides at larger, established tech companies, but smaller startups play a key role in marginal office demand and pricing. And the enviable stories of wealth creation surrounding their success can set the market tone. Unlike companies in traditional office-using industries, smaller tech startups frequently do not cover their lease payments with operating cash flow. They may have adequate financing to avoid a payment default during the lease term, but renewal/re-leasing risk may be high if leases expire during a period of weak capital access.

Additional information is available on www.fitchratings.com.

The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article, which may include hyperlinks to companies and current ratings, can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.

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View source version on businesswire.com: http://www.businesswire.com/news/home/20160321006145/en/

Fitch Ratings
Stephen Boyd, CFA
Senior Director
U.S. REITs
+1 212-908-9153
Fitch Ratings
33 Whitehall Street
New York, NY
or
Kellie Geressy-Nilsen
Senior Director
Fitch Wire
+1 212-908-9123
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Alyssa Castelli, New York, +1 212-908 0540,
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Source: Fitch Ratings

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