The Small Balance Intersection Update - October 10, 2024

Did you Know?

According to insurance brokerage Marsh McLennan, premiums on commercial properties rose 11% across the country in 2022, with storm-prone regions like the Gulf Coast and California seeing up to 50% hikes. In 2023, these premium spikes doubled, in some cases.?

In fact, insurance costs now account for 8% of apartment building operating expenses, compared to 4% just five years ago.

Watch for Economic Shifts

U.S. Small Business Confidence Remains High Despite Inflation Concerns

Why it's Important?

The Bank of America study highlights the resilience and optimism among U.S. business owners, particularly women and minority-owned businesses, despite economic challenges like inflation. This optimism is crucial as it signals continued investment in growth, hiring, and community engagement, which can help drive broader economic stability and job creation. Small and mid-sized businesses are foundational to the U.S. economy, providing significant employment and contributing to local and national economic health. The strong revenue growth expectations, especially among minority business owners, reflect confidence that can spur market activity and attract further investment, even as businesses adapt to new economic realities.

What to Watch For?

1. Economic Confidence by Demographic: While there is optimism among business owners, the degree of confidence varies across demographics and business sizes. Minority-owned businesses like those run by Hispanic-Latino and Black/African American owners show strong expectations for growth and expansion. Monitoring how these expectations align with actual economic performance can indicate broader market trends.
2. Hiring and Labor Market Dynamics: Labor challenges remain a significant concern, particularly for smaller businesses. With many business owners looking to hire, the availability and cost of quality labor will play a critical role in shaping growth trajectories. Pay attention to changes in wage trends, staffing strategies, and the role of technology and AI in supporting hiring efforts, especially among AAPI business owners.
3. Inflation and Expansion Plans: Inflation remains a critical factor influencing business sentiment. While many businesses plan to expand, their ability to do so profitably may be impacted by inflationary pressures on costs and consumer spending. It’s essential to observe how these businesses balance expansion with managing rising costs and maintaining profitability, which will influence their longer-term outlook.

These trends underscore the importance of tracking business sentiment as a leading indicator of economic conditions, as well as understanding the strategies that diverse business owners are employing to thrive in a shifting market landscape.

For more information, read the full B of A report here .

Robot Row

Robotics Revolutionizes Grocery Delivery in Brooklyn

Why it is Important?

The emergence of robotic-powered grocery fulfillment centers represents a significant shift in the grocery industry, offering potential solutions to some of the long-standing challenges in grocery e-commerce. This innovation, led by Save A Lot's partnership with Fabric in Brooklyn, aims to make grocery shopping more efficient and cost-effective. Automation could drive down operational costs, allowing retailers to pass savings onto consumers, with promises of up to 30% lower prices than traditional grocery stores. As grocery e-commerce remains a small but growing segment, advancements like these could reshape consumer behavior, providing a competitive edge to companies that adopt such technologies. The broader implication of this shift is the potential to transform how groceries are delivered, making it faster, more affordable, and more convenient for urban consumers.

What to Watch For?

1. Impact on Employment: Automation in fulfillment centers could significantly reduce the need for human workers, as seen in the Brooklyn facility, which operates with just 10 employees across two shifts. This reduction in workforce is a concern for labor unions and could become a broader issue as automation scales up. Keeping an eye on labor market responses, including potential strikes and negotiations like those seen at U.S. ports, will be crucial to understanding the social and economic impact.
2. Adoption by Other Retailers: While Save A Lot is one of the early adopters, the success of this pilot program could encourage larger chains to adopt similar models. Watching how competitors like Walmart and regional players respond with their own automation strategies will indicate how quickly this technology might spread and reshape the competitive landscape of grocery retail.
3. Customer Experience and Retention: Save A Lot's strategy hinges on digital marketing and partnerships with delivery services like Uber to attract customers in markets where they lack a physical presence. Monitoring customer satisfaction, the speed of delivery, and the retention rates of those who try the service will be key indicators of the model’s viability. It will also be important to see if the reduced variety of offerings (e.g., fewer bread options) impacts customer preferences and loyalty.
4. Economic Viability and Scalability: The lower cost and faster construction of these fulfillment centers (e.g., $1 million for a 4,000-square-foot facility built in four months) suggest a potential for rapid expansion if successful. However, profitability remains a challenge in grocery e-commerce, and it will be essential to see if the automation can effectively balance lower margins with operational efficiency.

This transition to automation in grocery fulfillment represents both an opportunity and a challenge for the industry, offering a pathway to lower costs and faster delivery but potentially at the expense of traditional jobs and customer choice. How this balance plays out will shape the future of grocery retail in the U.S.

Source WSJ

Housing Choice Lane

Renting vs. Owning: A Retirement Housing Dilemma

Why it is Important?

Deciding between renting or owning a home in retirement is a crucial financial decision that can significantly impact an individual's lifestyle, savings, and ability to adapt to changing circumstances. As more than 7 million adults over 65 opt to rent rather than own, understanding the trade-offs can help retirees make informed decisions that align with their financial stability and desired lifestyle. While homeownership has traditionally symbolized financial security, renting can offer flexibility and relief from the costly upkeep of a home. This shift is particularly relevant as many retirees live on fixed incomes, making them more vulnerable to the financial implications of unexpected expenses or rent increases. The trend also holds broader implications for commercial real estate, shaping investment opportunities and development strategies.

What to Watch For?

1. Increased Demand for Multifamily Rental Properties: As more retirees choose renting, demand for multifamily rental housing tailored for older adults could rise. This creates opportunities for developers and investors to focus on age-friendly rental properties, such as multifamily complexes that offer amenities like accessibility features, social activities, and proximity to healthcare services. Monitoring how this demand evolves can guide investment strategies in both urban and suburban areas.
2. Growth in Senior Living and Mixed-Use Developments: The desire for rental flexibility among older adults may drive demand for senior living facilities and age-targeted mixed-use developments. These projects can integrate residential rental units with retail, medical offices, and community spaces, meeting retirees' needs for convenience and social engagement. Developers should watch for opportunities to repurpose existing properties or build new projects that cater to this demographic's preferences.
3. Opportunities for Investors in Secondary Markets: Retirees often look for affordability and lower living costs, leading to increased rental demand in secondary or tertiary markets where rental prices are more manageable. This shift could attract commercial real estate investors to these markets, focusing on properties that meet the lifestyle needs of older renters. It could also support revitalization efforts in smaller cities and towns as more retirees choose to rent there, potentially impacting local economies positively.
4. Shift in Retail and Service Needs: The increasing presence of older renters can influence demand for commercial spaces like healthcare facilities, pharmacies, and convenience stores within residential developments. Retailers and service providers that cater to the needs of an older population might find new opportunities in areas with high concentrations of senior renters. Developers should consider these shifts when planning the tenant mix for mixed-use projects.
5. Cost of Maintenance vs. Rent Increases: Homeownership comes with expenses like repairs, maintenance, and potential capital improvements, which can be burdensome in retirement. Renting eliminates these costs but exposes retirees to the risk of rent hikes, which can be difficult to manage on a fixed income. Understanding how maintenance costs compare to potential rent increases in their area is crucial for retirees to make the best financial choice.
6. Flexibility and Mobility: Renting provides the flexibility to relocate without the complexities of selling a home, making it an attractive option for those who want to downsize or move closer to family or healthcare services. This mobility can be particularly valuable as health needs change. However, retirees should consider the availability of suitable rental options in their preferred locations.
7. Economic Trends and Inflation: With the ongoing challenge of inflation and rising costs, it's essential for retirees to evaluate how these trends might affect their housing expenses. Homeowners can benefit from fixed mortgage payments, while renters may face unpredictable increases. Retirees should watch for local housing market trends, as rent increases can vary greatly depending on the market.

The choice between renting and owning a home in retirement is highly individual and depends on a retiree’s financial situation, lifestyle preferences, and future needs. As the housing market evolves, it will be important for retirees to stay informed and adjust their strategies to ensure both financial security and a comfortable living environment during their later years. Meanwhile, the shift in housing preferences among older adults offers new opportunities for commercial real estate development, particularly in age-friendly rental housing, senior living, and mixed-use spaces that cater to a growing demographic of older renters.

CNBC Source

Detour: Rising Risks on Commercial Way

Rising Distress in the CMBS Market: Key Insights from September's Special Servicing Rate Surge

Why it is Important?

The significant rise in the Trepp CMBS Special Servicing Rate to 8.79% signals a growing trend of distress within the commercial real estate market. This increase is critical for investors, lenders, and property owners as it reflects heightened financial challenges, particularly in sectors like office space, which has been hit hardest by changes in work patterns and declining demand. The trend of nine consecutive monthly increases indicates persistent economic challenges in the commercial real estate sector, emphasizing the need for stakeholders to prepare for potential defaults and liquidity challenges. Understanding these shifts can help adjust investment strategies and prepare for future volatility in property values.

What to Watch For?

1. Office Sector Trends: The office sector, with a surge of 67 basis points to a special servicing rate of 12.58%, is a key area to monitor. Its steep increase indicates ongoing difficulties with occupancy and lease renewals, reflecting broader trends like remote work and companies downsizing their office space. Watch for further rate changes and tenant demand patterns in this segment, as it could indicate the broader economic health and real estate market stability.
2. Multifamily and Retail Dynamics: The multifamily rate surpassing 6% for the first time in nearly nine years suggests emerging distress in residential rental properties, likely tied to rising interest rates and affordability challenges. The retail sector reaching a near two-year high also highlights potential struggles with consumer spending patterns and the adaptation of retail spaces. Changes in these rates could impact investor appetite for these property types.
3. New Transfers to Special Servicing: The high transfer balance of $3.27 billion, with a significant portion from the office sector, is a critical metric. It indicates increased financial strain among borrowers, potentially leading to more defaults or restructurings. Observing the volume and nature of these transfers can offer insights into the sectors under the most stress and potential opportunities for distressed asset investors.

Monitoring these factors can provide early indicators of market shifts, allowing stakeholders to adapt their strategies and mitigate risks associated with the ongoing distress in the commercial mortgage-backed securities (CMBS) market. For more detailed information on the Trepp CMBS Special Servicing Rate and related trends, you can visit the Trepp website .