Improved Economy, Employment Spurts and Expansion in Cards for '12
Jotham Sederstrom Jan. 3, 2012, 2:30 p.m.
Following a tumultuous year on the domestic and global stages, the outlook for the American economy improved in the final months of 2011.
The question of a double dip into recession has largely faded from the minds of investors, even if policymakers remain attentive to signs of weakness in the patterns of renewed growth. In the final tally, the economy will have expanded by approximately 1.8 percent in 2011. From the end of the recession through the third quarter, the economy expanded by 5.5 percent, less than half the 12.2 percent expansion that has followed previous recessions over a comparable span of nine quarters. That is a disappointing comparison that, in the baseline analysis, should give way to a marginally faster pace of expansion in 2012.
A degree of caution is warranted when setting confidence intervals on updated projections. The economic trajectory remains susceptible to discrete shocks, as well as to the potentially corrosive impact of political gridlock in the United States and Europe. The past few years are instructive in this regard, since many investors and economic forecasters evinced a similar rise in sentiment in early 2011 and, two years before, in early 2009. In its February 2011 projections, for example, Freddie Mac forecast that real GDP growth would average 3.8 percent in 2011 and 4 percent in 2012. Roughly two years before, in March 2009, Fed Chairman Ben Bernanke was citing evidence of “green shoots.”
Regrettably, upside projections for economic output, business activity and jobs did not survive the gauntlet of those previous scenarios’ economic and political realities. Apart from the earthquake befalling Japan, many of the drags that confounded investors in 2011 remain features of the marketplace today.
Improved Hiring Trends?
Parsing the range of recently updated indicators, the most warmly received data relates to the labor market. Given the abysmal performance of the labor market since the recession’s official end in June 2009, signs of improvement demand celebration akin to the return of the Prodigal Son.
The headline measures of employment remain among the most serious causes for concern; as of November, net employment had increased by just 1.6 million jobs over the previous year. Month-to-month improvements in the second half of the year have shown no improvement on the first half.
The positive trends in the labor market data are found elsewhere, in unemployment claims, termination rates and job openings. Initial claims for unemployment insurance fell to their lowest levels in three years in December. Even though net hiring remains weak, job openings have been rising steadily from the historic lows recorded in 2009.
If these parallel developments foreshadow an increased pace of hiring, a prerequisite for a more robust recovery may be falling into place. Many firms now boast margins that can support an increase in hiring but are reserved in their projections for demand. Thus far, firms have shown little appetite for proactive expansions of capacity. Given cutbacks in several areas, including government and some segments of financial services and retail employment, other firms will have to accelerate hiring if the overall trend is to improve.
Implications for Investment
Amid this protracted period of shifting sentiment and data, commercial real estate capital inflows have outpaced trends in the real economy as well as in property fundamentals. From a local peak in the second quarter, the pace of transaction volume slowed in the third and fourth quarters but remains well ahead of prior-year levels. Core asset investment trends remain decidedly positive, with property sales in cardinal markets commanding higher valuations and exceptionally low-cost financing.
Many investors have pointed to core real estate’s haven status as a rationale for its strong investment performance. Even as the employment drivers of space demand have lagged, domestic and cross-border investors and lenders have poured capital into the most liquid assets. On account of its stronger fundamentals and the contribution of agency financing, the apartment sector has recovered across a broader geographic and asset range.
If the economy shows real signs of improvement, the appeal of safe havens will necessarily diminish. On one hand, this implies that spillovers from core investment and credit availability might accelerate. That would be a welcome trend, since prices of noncore assets have trailed the core market significantly. On the other hand, diminishing risk aversion presents a new set of challenges for the commercial real estate market, in particular as relates to the cost of financing and because of improving risk-adjusted yields for other, non-real estate assets.
Sam Chandan, Ph.D., is president and chief economist of Chandan Economics and an adjunct professor at the Wharton School.