Current Supply/Demand Dynamic in Commercial Sales
An acute supply-and-demand imbalance in New York’s building sales market is creating dynamics that are perplexing to many of us who are active in the building sales sector as properties are currently selling for more than they probably should be. I write this sentence with trepidation as I wrote the same exact thing in March of 2010 in these pages. If you recall, that was the exact bottom of the New York City property sales market in terms of value.
Today, supply-and-demand dynamics are shaping the market. Interestingly, we are seeing tangible increases in the supply of available properties yet, counterintuitively, values keep rising because massive demand for New York properties outpaces this supply by such a wide margin. Let’s take a look at each of these metrics.
On the supply side, our market is almost always supply constrained. Over the past 30 years, the average turnover ratio (the number of properties sold out of the total stock of properties in the statistical sample) has been 2.6 percent. This means that, on average, when an investor purchases a property, they hold it for 40 years before selling it. If you consider that about half of the properties placed on the market actually sell, this means that about 95 percent of property owners have no interest in selling at any particular time. Even in the best sales market in history in 2012, 4.1 percent of the total market traded hands, meaning that about 92 percent of owners had no interest in selling.
Over the past three decades, we have only observed one year in which supply exceeded demand in New York. That was 1992 in which the Resolution Trust Corporation was dumping hundreds of properties at a time from failed banks.
Today, we are seeing an increase in the supply of available properties because values have increased to the point where they are becoming compelling to discretionary sellers. Given the health of the market, there are relatively few distressed sellers, so most sellers are deciding it is simply the right time to monetize their assets. We estimate that supply has risen by about 50 percent over the past three years.
The supply/demand balance dictates that when supply rises, values should fall. This has not been the case due to constantly increasing demand, which has been exerting tremendous upward pressure on values.
“Excessive” is perhaps the best adjective to describe demand drivers today. While the landscape has shifted dramatically over the past 10 years, today all buying groups are competing aggressively with each other. High net-worth individuals, family offices, institutional capital and foreign investors are all in high gear. For this reason, even in the face of significantly increased supply, we have seen continual upward pressure on pricing, which continues to make selling compelling, adding to the supply even further. This quintessential positive feedback loop will continue until something happens to assuage this unprecedented demand.
While there are several things that could interrupt the current balance (such as interest rate increases, local real estate tax policy or federal tax reform), today there seems to be no end in sight for a market in which property value is continuing to rise at levels that are simply not substantiated by gains in underlying fundamentals. Our market, just like all markets, is cyclical and will turn at some point. However, until then we should continue to enjoy every day.