Market Monitor

In my recent conversations with self-storage owners, I have noticed that the majority are enjoying stabilizing revenues, and in some cases they are also enjoying an increase in revenue over the last 6 to 12 months. Interestingly, most owners don’t realize that they have made or lost money because they are in the real estate business and not the self-storage business. While the increase in revenue is creating more cash flow for owners, today the real opportunity lies in the arbitrage that a real estate investor can capitalize on between cap rates and interest rates.

If you read the last issue of the Market Monitor, it is apparent that the fundamentals of the self-storage business are sound. With all four of the major self-storage REITs posting positive growth numbers over the same quarter last year it is clear that the industry is poised to move forward.

The economic and political roller coaster of the last month has been devastating not only to the stock market but also to the overall investment market, including commercial real estate. The fear and greed that motivates investors to take positions either to protect their investments in uncertain times or capitalize on what they perceive as opportunity has been frozen by the overall volatility in the market over the last month.

The availability of commercial real estate capital continues its expansion across all sectors with the CMBS market seemingly running at full steam (although nowhere near the peak in 2007) and life insurance companies already exceeding annual loan volumes year to date compared to recent years. Loan pricing competition is fierce for low leverage (sub-60% loan to value) transactions across all property sectors and higher leverage (75%+ loan to value) loans are generally available for multi-family properties in strong markets, as well as dominant grocery anchored centers and institutional quality multi-tenant bulk warehouse properties. Self-storage and hotels are receiving more attention from conventional lenders, although recent operating history is critical to the underwriting process.

Forecasting economic trends, particularly in real estate, is risky business. However, not paying attention to economic trends such as interest rates, cap rates and overall real estate investor confidence is even riskier. I believe that self storage owners have made or lost more money because they are in the real estate business not the self storage business; even though your self storage business is an extremely reliable income stream.

While the last few years have been very difficult for the self-storage industry, the most positive and productive result of the contracting economy and challenging real estate market was that self-storage operators had to take a very hard look at their operating expenses. This has forced many operators to change their marketing campaigns and go outside their comfort zones to move into the next generation of self-storage marketing.

During the relatively brief history of the self-storage business (35 to 40 years) the perception about the industry has changed dramatically. Wall Street has now embraced the industry and life insurance companies and conduit lenders have come back to the market, enamored once again with lending on self-storage properties with terms similar to core asset classes such as office, retail and industrial. Along with the respect that the self-storage industry has earned over the years comes an increase in competition. Operators are now realizing that sophisticated operations and economies of scale are imperative to survival in the business.

There are many ways to enhance your self-storage facility’s Net Operating Income (NOI) including raising prices or lowering expenses by using cheaper service providers. With the recent introduction of reality TV shows like Storage Wars, self-storage operators are rediscovering a tool to improve their NOI by recapturing lost revenue from non-paying tenants.

As we settle in to 2011, it is clear that self-storage values are rebounding along with the values of all other commercial real estate. In 2010, large MSAs like New York, Boston, Los Angeles, Chicago, San Francisco, Houston, and Washington saw the beginning of a rapid recovery in commercial real estate values, much to my surprise. A combination of big portfolio sales and solid returns during the downturn has led both small and large investors back to self-storage as a preferred investment.

Since the onset of the recession in 2008, millions of Americans have had to adjust to lower personal incomes, family members losing jobs, decreased asset valuations and shrinking investment portfolios. Simultaneously, commercial real estate values have plummeted by as much as 40 percent from their 2007 benchmark highs. With such financial difficulties, many people have simply tried to hang on until better days. We think those better days may be coming in 2011 given recent encouraging signs of economic improvement: