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Rents at Small-Cap Commercial Properties Fall for 7th Month
Monday, 10 November 2008
Commercial Real Estate Direct Staff Report

Rents at small commercial properties across the country have seen declines in rent for seven straight months, according to Boxwood Means Inc. But their declines have been rather muted.

The Stamford, Conn., research firm, which compiles property-level operating and sales data on small-capitalization properties through a partnership with LoopNet Inc., found that retail properties have been the hardest hit so far. But they've only seen declines of 2.8 percent from their peaks. Nonetheless, their average national rents have fallen for 14 straight months and now stand at $18.67/sf, down from $19.22/sf in July 2007.

Office rents have dropped to an average of $17.27/sf from a peak of $17.40/sf in February. And industrial rents are $8.10/sf, down from a peak of $8.39/sf in March.

But some markets have underperformed the nation. In the Southeast, for instance, office rents average $15.91/sf, down 4.4 percent from the peak of $16.64 hit in July 2007.

Unlike other research companies that track rents and other fundamental data on large-cap properties, which tend to sit in larger markets, Boxwood Means' focuses solely on the small-cap market, which it found is closely correlated to the residential market. Small-cap properties are defined as those valued at $10 million or less. It tracks rents at office, retail and industrial properties in 100 metro areas across the country.

"The small-cap market is more reflective of what's going on in the residential market than in the large-capitalization market," said Randy Fuchs, principal and co-founder of Boxwood Means. "The thinking had been that the small-cap and large-cap markets moved together." But that's just not the case, he said.

The residential market, for instance, saw peak prices during the summer of 2006, as did the small-cap commercial property market. But pricing for large-cap properties continued to climb and didn't hit their peak until early 2007.

That, Fuchs said, stands to reason because many small-cap properties are not only owned by small investors, as opposed to institutions, but their tenant bases also tend not to be institutional in nature. In addition, as much as 40 percent of the small-cap real estate inventory in the country is owner-occupied. That might include, for instance, the owner of a 10-unit apartment property who lives in one of the units, or a retailer who owns a shopping center that might have other tenants.

So when small businesses sneeze, small-cap properties catch colds. And because of the relatively short-term nature of small-cap property leases, those colds are caught almost immediately. Larger properties in and around central business districts tend to cater to larger businesses that usually lease their space for 10-15 years at a time. Leases at small properties tend to be for three to five years.

As such, the operations of small-cap properties could be viewed as a leading indicator of general economic conditions. Generally, because of the relatively long-term nature of leases, commercial real estate markets have been considered economic lagging indicators.

Boxwood Means found substantial differences in rental performance among the major regions it tracks. Northeast retail properties, it found, saw average rents actually climb, to $23.52/sf from $22.47/sf a year ago. And industrial properties in the Southeast and Midwest have underperformed the nation, with one-year rent declines of 6.9 percent and 4.7 percent, respectively.

Comments? E-mail Orest Mandzy or call him at (215) 504-2860, Ext. 211.

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