A stutter-step economic recovery seems to be underway, with signs that the housing bust and employment wipeout may finally be moderating. But economists still have a lot of major worries.
One of the biggest is an unfolding bust in commercial real estate that may mirror the housing meltdown. Earlier in this decade, when credit flowed easily and the economy was booming, commercial developers behaved much the same as overeager homeowners. Figuring business would keep growing and rents rising, they borrowed heavily to build office towers, hotel complexes, and retail projects. Banks obliged, funneling the cash. Now, with a surge in bankruptcies, cutbacks, and layoffs, office and retail vacancy rates are near record levels. Over the next three years, many cities will struggle with a new real estate bust as banks foreclose on commercial real estate loans and developers battle to stay in business.
In a separate story, we've profiled the cities likely to be hit hardest by the coming wave of commercial foreclosures. And here, we've compiled a list of cities likely to escape the commercial real estate scourge and transition soon to a bona fide recovery.
We based our analysis on data provided by REIS, a real estate research firm. The data cover retail and office vacancy rates in the 79 biggest metro areas, including projections for 2010. At our request, REIS combined its retail and office data into a single commercial vacancy rate for the metro areas.
To gauge the impact on each city over the coming year, we measured the difference between the commercial vacancy rate in 2008 and the projected rate in 2010. One thing the data show is enduring pain from the recession: Every one of the 79 cities is likely to endure an increase in commercial vacancy rates next year. But there's a wide disparity. In a few cities, the increase may be negligible. Tourist mecca Las Vegas stands to fare the worst, with a combined vacancy rate that's projected to rise from 11.3 percent in 2008 to 18.1 in 2010, a jump of 6.8 percentage points. Tulsa, by contrast, should endure a rise of just 2.2 percentage points.
The 10 cities that seem most inoculated from the coming bust won't necessarily have the lowest vacancy rates. Rather, they're cities least likely to contend with a fresh round of commercial real estate woes that will hamper a recovery. And since commercial and residential real estate markets are linked, a mild office and retail downturn could signal an imminent improvement in the housing market and the overall economy. Several of these cities are now benefiting from a real estate market that seemed tepid earlier this decade, when other regions were booming; with less of a rise, there's now less distance to fall. Other cities benefit from stable industries that have helped offset a retail meltdown. These 10 cities seem most likely to avoid a commercial real estate bust and start moving toward recovery:
Tulsa (projected vacancy rate in 2010: 19.2 percent, up 2.2 percentage points from 2008). The oil and gas sector was an albatross in the 1980s, when Tulsa suffered from a severe energy bust. But in recent years energy (along with healthcare, aerospace, and government) has helped sustain Tulsa's economy. Employment and economic growth are much better than national averages, and unlike in other cities, most big construction projects have stayed on track. With new buildings coming online, the overall vacancy rate will stay high until the economy fully rebounds. But it will worsen only slightly in 2010 and probably start to improve by 2011.
Pittsburgh (17.3 percent, up 2.4 points). This once industrial city wriggled out of the Rust Belt years ago, and the economy now revolves around medicine, technology, and higher ed. At 7.7 percent, the unemployment rate is nearly 2 percentage points lower than the national average. Few people got rich in Pittsburgh during the real estate boom, which seemed to pass the city by. But the bust has spared Pittsburgh as well, with home prices remaining more stable than in most other markets. That leaves the Steel City primed for a recovery.
Long Island, N.Y. (11.8 percent, up 2.7 points). Developers complain about the end of a boom that closely tracked the surge in the New York City economy and real estate market. And ongoing cutbacks in the financial industry will continue to crimp the Long Island economy. But Long Island is blessed with water on virtually all sides, which helped limit the kind of sprawl and overbuilding that took place in other cities. And even with the hometown financial industry in a tailspin, unemployment is better than the national average.
District of Columbia (11 percent, up 3.2 points). The federal government is one of the few big national employers that hasn't been cutting jobs, and Washington has reaped the benefits. There's even evidence that President Obama's activist agenda has helped increase the demand for D.C. office space in 2009. Vacancies will rise a bit in 2010 and rents will drift slightly lower, but with an unemployment rate of less than 7 percent there's barely a recession in Washington. (Note: REIS's D.C. vacancy-rate data do not include retail space, but those rates are likely lower than the office vacancy rates.)
Philadelphia (13 percent, up 3.2 points). A sizable government sector has helped keep unemployment below the national average. Healthcare and education jobs also have helped offset cutbacks in finance, construction, and manufacturing. Those same sectors will help the economy recovery, possibly faster than the nation overall.
Birmingham, Ala. (15.6 percent, up 3.3 points). The city's biggest bank, Regions Financial, is on a government lifeline, but Birmingham's economy is a healthy blend of insurance, medicine, publishing, biotech, and higher ed. Even the nearby automotive sector is doing OK, since it's centered around three manufacturers—Honda, Hyundai, and Mercedes-Benz—that stand to gain at the expense of rivals. Despite a string of retail closures, Birmingham's real estate market should hold up better than the national average.
Louisville, Ky. (15.9 percent, up 3.5 points). Two Ford Motor plants have been laying off workers, and other cutbacks in manufacturing and construction have driven the local unemployment rate above 10 percent. But UPS recently expanded a major shipping hub, and there are other anecdotal signs of hope. Attendance at job fairs has been falling, for instance, and a majority of regional retailers say they're optimistic that sales will pick up in coming months. Plus, Louisville's real estate market never boomed like other markets, which means there will be less of a bust to recover from.
Portland, Ore. (12.8 percent, up 3.6 points). Portland's unemployment rate has surged by nearly 7 percentage points over the past year, making it one of the highest in the nation. But local economists think that's partly because people come to the region from more depressed areas, hoping to land a job in what has traditionally been one of the West Coast's most vibrant economies. With dozens of businesses clustered around trendy sectors like clean technology, recycling, sustainable development, and eco-friendly manufacturing, Portland seems poised for a healthy rebound.
Fairfield County, Conn. (15.6 percent, up 3.6 points). Don't weep for Connecticut's "Gold Coast," where fortunes rise and fall with those of Wall Street. Unemployment is up and real estate values are down, as in most of the country, but incomes have held steady, and Fairfield remains one of the wealthiest counties in America. Mature towns and a coastline helped limit overbuilding during the boom, which will ease the way toward a recovery.
Raleigh-Durham, N.C. (14.7 percent, up 3.6 points). A mix of government jobs, higher ed, healthcare, and technology has helped this progressive area pull off a neat trick: Population is growing at a healthy 3 percent rate, but the unemployment rate remains one of the lowest in the state. Vacancy rates will rise slightly in 2010 and some tenants will get a break on rent, but metro area residents may soon be wondering, what recession?
- Related News: See 10 Cities Facing the Next Real Estate Bust.