What Does California’s New Rent Control Mean?

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What Does California’s New Rent Control Mean?

California lawmakers passed a statewide rent control bill to address a worsening housing crisis in the state where millions of people are paying more than half their monthly income in rent.  The bill is meant to address rising costs in cities like San Francisco, where rent has risen steadily for years and peaked at 6% annual growth in 2015, according to CoStar Analytics.  The bill affects an estimated 8 million renters as it prohibits landlords from hiking rents more than 5% plus the cost of inflation and gives renters more protection from evictions.  The law extends for 10 years, and exempts housing built within the past 15 years, as well as single-family homes and condominiums

History has shown that rent control immediately leads to a shortage of apartments, as potential tenants who would love to move into a new place at the rent-controlled rate can’t find any vacancies. In an unhampered market, the equilibrium rental price occurs where supply equals demand, and the market rate for an apartment perfectly matches tenants with available units.

Rent control reduces the supply of rental units through two different mechanisms. In the short run, where the physical number of apartment units is fixed, the imposition of rent control will reduce the quantity of units offered on the market. The owners will hold back some of the potential units, using them for storage or keeping them available for out of town guests, kids returning from college, and vacation renters. In the long run, a permanent policy of rent control restricts the construction of new apartment buildings, because potential investors realize that their revenues on such projects will be artificially capped. Building other property types (like industrial and retail) now has more profit allure.

Additionally, with a long waiting list of potential tenants eager to move in at the official ceiling price, landlords do not have much incentive to maintain their buildings. Furthermore, if a tenant falls behind on the rent, there is less incentive for the landlord to give him any leeway, because she knows she can immediately replace him after eviction. In other words, rent control encourages the behavior typically associated with the term “slumlord.”

In summary, if the goal is to provide affordable housing to lower-income tenants, rent control has proven to be a counter-productive policy. Rent control makes apartments cheaper for some tenants but impossible for others who can no longer find a unit, even though they could pay the higher, free-market rate. Furthermore, the people who remain in apartments — enjoying the lower rent —receive a lower-quality product.  Now we can expect California’s housing crisis to worsen before it gets better.

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TOP 10 REASONS TO EXPECT A RECESSION IN 2020

Recession indicators which overwhelmingly signal a major economic slowdown brought on by slower growth abroad and Trump’s escalating trade war with China include:

  • The U.S. bond market and the inverted yield curve — the yield on the benchmark 10-year Treasury note has fallen below the 2-year yield multiple times in the last month, and this inversion has preceded the last 7 recessions.
  • Gross domestic product in the U.S. is slowing. The economy expanded by 2% in the second quarter, which is the lowest growth rate since the fourth quarter of 2018 and down from 3% growth in the first three months of this year.
  • Corporate Earnings growth estimates have come down drastically this year from previous estimates for the S&P of 7.6% to current estimates of 2.3%.
  • U.S. manufacturer growth slowed to the lowest level in almost 10 years in August, such that the reading is below the neutral 50.0 threshold for the first time since September 2009. Any reading below 50 signals a contraction.  The Trump/China trade war, coinciding with global growth worries, continues “to weigh on business confidence and firms’ capital expenditure plans,” according to minutes from the Fed’s July meeting.
  • The economic outlook from Freight’s perspective looks grim, as the Cass Shipments Index fell 5.9% in July, following a 5.3% decline in June and a 6% drop in May, “signaling an economic contraction,” the July report said, and “we see a growing risk that GDP will go negative by year’s end.”
  • Copper, known as a barometer of economic health because of its use in homebuilding and commercial construction, is down over 13% in the last half year.
  • Gold prices have soared more than 20% since May when and Trump and China escalated their tariff fight. Similar to government bonds, gold is known as a safe haven trade in times of economic uncertainty.
  • The Global Economic Policy Uncertainty Index, an index designed to measure policy-related worries around the world, hit its all-time highest level, 342, in June.
  • Business spending tumbled 5.5% in the second quarter, the worst since the fourth quarter of 2015, according to the Commerce Department’s quarterly GDP report.  Coming off of a sugar high from Trump’s 2017 tax windfall, businesses are hesitant to invest in future initiatives due to uncertainty.
  • Confidence in US policymakers has reached historic lows, while wealth becomes increasing concentrated and wages stagnate.
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Amazon Kills and Then Revives Malls as Fulfillment Centers

Online retailer Amazon has spent the past two decades luring shoppers out of stores and onto the internet, leading a retail transformation resulting in a wake of dead malls. Now the Seattle-based company is buying more of those empty shopping centers, converting them into warehouses for processing deliveries to consumer doorsteps.  The company plans to open two more Ohio warehouses, including one at the site of a closed mall in Akron, the third shopping center in northeastern Ohio the company has bought and converted into a fulfillment center. Around the country, at least 24 projects exist where developers have turned closed malls and shopping centers into logistics properties since 2016, with almost 8 million square feet of retail either converted to or replaced with 11 million square feet of new industrial space.  Among the advantages of converting malls to logistics facilities are their locations near population centers, making it easier to provide next-day or same-day delivery to customers, with easy access to highways and mass transit and water, sewer and parking systems already in place.

With online shopping increasing at roughly four times the rate of total retail sales and cutting deeper into spending at physical stores, owners are stepping up the sale or conversion of dead malls and distressed shopping centers, particularly in suburbs and rural areas most vulnerable to the effects of e-commerce and store closings, CoStar Portfolio Strategy Managing Consultant Drew Myers said in the midyear State of the U.S. Retail Market report.  The converted malls and big-box retail stores favored by Amazon and other logistics developers are mostly in areas with lower median household incomes than the national average where industrial space is also in short supply, which makes the properties more valuable as industrial space than retail.

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Housing Bubble Burst Ahead?

Data from the National Association of Realtors suggests a housing bubble may be on the verge or bursting in some markets, like coastal California. Overall, U.S. home prices in the second quarter were up 4.3% vs. a year earlier to $279,600, with 16 markets posting declines. That’s a slight appreciation dip from averaging 5.5% annual gains in 2016-2018, a period when just eight U.S. markets were losers.  Silicon Valley prices in California took the nation’s second-biggest loss in the quarter: a 5.3% year-over-year decline, which is a huge contrast from 2016-2018, when the San Jose-Santa Clara market’s prices averaged 15.7% annual gains — the No. 1 gain nationally. San Francisco suffered the seventh-biggest U.S. decline of 1.9% in the year, which is again quite the decline from 9.6% annual increases. Three other coastal California markets had eroding gains: (1) Orange County with 0.6% gain, down from 5.8%, (2) San Diego with a 1.6% increase, down from 6.7%, and (3) Los Angeles with a 1.8% increase, down from 8%. California’s more affordable inland markets fared better at 5.6%, but still dipped from a previous 8% yearly rate.  These declines may be attributed to the steep run-up of prices in recent years and a recent cooling of the state’s business growth pace. However, California has company, as second-quarter depreciation also occurred in markets in Illinois, New York, Wisconsin, Florida, Oklahoma, Hawaii, Colorado, Kansas and Connecticut.

People talk about the need for more “affordable” housing in California, but the creation of relative bargains with price cuts on existing homes often scares off the same house hunters who claim they want to pay less — fearing overpaying as a price slide begins, and choosing to wait to buy in hopes of steeper discounts. This wait-and-see mentality can amplify an already souring situation. 

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Regal Properties Represents 5 TIC Exchange Buyers of Strong Credit Retail Center in SoCal for 8.37% Cap

Regal Properties represented 5 TICs in multiple 1031 exchanges in the recent purchase of a 54,750 square foot shopping center, predominantly leased by national credit tenants, located within the desired Southern California retail market of Hemet.  The below replacement cost price of $8,600,000 equates to an 8.37% cap rate with a 13% leveraged cash on cash return for a high-performing retail center shadow anchored by Stater Bros Supermarket (NAP), a regionally dominant grocer, and junior anchored by CVS and Dollar Tree. 

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2019 Housing Outlook

Expect housing in 2019 to be flat. The recent decline in mortgage rates from 5% to 4% for the 30-year-fixed provides some support for housing.  However, the tax-law change, which took away many of the tax benefits of homeownership, weighs on demand. The impact of the new tax law is still filtering through the housing market, particularly in more expensive markets like California, and Florida, where those tax benefits are more important.

Affordability remains an issue. The runup in house prices over the last six years makes housing less affordable for many entry-level buyers, even with the lower mortgage rates.

A slight increase in new home construction this year, particularly at lower price points, seems likely. In terms of price growth for houses, 2019 will likely be weaker than recent years, probably in the 3% range due to affordability issues and the tax-law change.  Government dysfunction, geo-political risks, possibilities of more government shutdowns relating to immigration and the debt ceiling, trade wars and resulting stock market declines, further add to the uncertainty and decreased demand of potential home buyers.

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Regal Properties Voted “San Diego’s Favorite” Real Estate Company

Again, in the 2018 “San Diego’s Best” Union Tribune Readers Poll, readers nominated and voted for their favorites in various business categories, selecting Regal Properties as their Favorite in 2 categories this time – Real Estate Brokerage and Commercial Real Estate Company. We are honored and appreciative to receive this recognition, from our clients, colleagues and business partners. Regal Properties proudly “Invests in People and Property” by donating 10% of all fees and commissions to charitable causes, allowing the client to choose a specific non-profit to receive half of that amount.

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Regal Properties Closes $14,900,000 Retail Acquisition at 8.6% Cap

Regal Properties’ Senior VP, Maha Odeh, represented the buyer, Laguna Village Plaza LLC, in the $14,900,000 purchase of a 102,000+ retail shopping center at 5945 W. Ray Road in Chandler, Arizona, for an 8.6% cap rate, with a loan of $9,600,000.  The center is anchored by Walgreens, Natural Grocers, and CCV Church.  Escrow closed on on August 15, 2018.

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Unaffordability Means Fewer Homebuyers

Mortgage applications hit a near 4-year low in July, dropping for the third month in a row.  The causes include: (1) homes are overly expensive now due to tight inventory and rising interest rates, (2) wage growth has remained stagnant while the costs of living (including rent) have continued to climb, such that saving money to buy a home has become increasingly difficult.  Something has to give…

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Starbucks Feels the Heat of Competition

Amid slowing growth in an increasingly crowded market, Starbucks announced it will close 150 under-performing, company-operated U.S stores in 2019. Historically, the Seattle-based chain has closed about 50 stores per year. The upcoming store closings will occur primarily in urban markets saturated with Starbucks locations. However, Starbucks’ sales are also slowing, as the company expects just 1% growth in same-store sales for the third quarter of 2018—the worst performance in about nine years.  One reason is increasing competition from trendy, independent neighborhood coffee shops and artisan roast cafes that offer customers an experience.  In addition to the more upscale, independent coffee shops, competition is heating up from lower-priced fast-food chains, including Dunkin’ Donuts and McDonald’s.

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