Marcus & Millichap Pacific Northwest’s Post

Transcript

(upbeat music) - Hey, everyone, in 2025, we can experience an important structural shift. And this change will have long-term implications for the entire commercial real estate sector and for virtually every commercial real estate investor. Several people have noted pieces of the transformation, but I have yet to see someone highlight the entire combination. I'm talking about real estate construction. It's no secret that the number of new apartment units coming online over the next few years will decline steadily. The same is true for industrial properties. Meanwhile, office and retail construction have been minimal for several years. Is it just a real estate cycle? Maybe. We had record apartment completions in 2024 and industrial construction hit a record in 2023. So maybe the downturn in construction is just the real estate cycle at play. But I think the issue runs deeper, and I believe that construction of all types of commercial real estate will slump for several years, maybe five years or more. For people who own commercial real estate, this trend supports long-term performance and value gains. Because if there's a substantive supply limitation and demand is sustained, then there will, of course, be shortages. Now, I'll share the five reasons I believe real estate construction has likely hit a turning point and will likely remain suppressed for several years. The first issue is the retirement of baby boomers. 11,000 people in the United States turn 65 each day, and the labor force participation rate of people over the age of 65 is trending lower. Prior to COVID, about 20.8% of people 65 and older were in the labor force, that figure has come down to 20.2%, a loss of nearly 400,000 workers. And part of the problem this creates is that baby boomers have been the core of the construction industry for a long time. Baby boomers have been the tradespeople leading the construction sector. About 5.4% of construction workers are over the age of 65, and at risk of leaving the labor force, and the pool of talent to backfill these most experienced workers has thinned. Construction workers age between 45 and 64 has decreased from 38.4% of the total in 2019, to 36.7% in 2023. So, basically, and I've heard this from several developers, their most experienced people, the ones who really know how to get the job done, are retiring and the talent pool behind them is thin. This brain drain will be a headwind for the entire construction industry. The second issue has been the falling share of young adults entering the construction trades. In recent years, 62% of high school graduates immediately enter college, rather than pursuing trades in other career fields. Comparatively, in 1980, that share was 49%. So even though we've seen a recent boost in the number of young adults entering the construction trades, it's still well below what it was when the baby boom generation was coming of age, and as a result, it will take time to develop the new talent. One way the construction industry has bridged the personnel shortage was by using foreign-born labor, immigrants to the US. In total, about 34% of construction workers are foreign born. But a third headwind that could potentially impair the construction industry is a downturn of immigration. Under the new presidential administration, if the trends align with President Trump's first term as president, legal immigration to the US could decline. That would restrain the number of foreign-born construction workers. From 2016 to 2019, during President Trump's first term, the number of legal immigrants to the US fell by 46%. Construction trades like plasterers, drywall installers, painters, roofers, and carpet layers are particularly reliant on foreign-born labor. So if immigration to the US falls, the shortage of skilled construction labor could worsen. Now, the first three challenges that could restrain construction have been tied to labor shortages and skills gaps. The fourth headwind is tied to capital. Very simply, construction loans are hard to get and they're relatively expensive, usually bearing interest rates north of 8%. And compounding that is the cost of materials, about 80% of softwood lumber used in construction is imported with Canada being a primary source. When tariffs on Canadian lumber were put in place during President Trump's first term, lumber prices jumped dramatically. About 21% of the steel used by the US is also imported, as well as 45% of the copper and 24% of the cement. If tariffs are implemented in President Trump's second term, construction material costs could increase significantly. So the combination of labor shortages, skills gaps, financial costs, and material costs could all conspire to restrain the development of real estate properties over the next several years. For investors who own existing assets, restricting new supply could be a strong positive that lifts occupancy rates, puts upward pressure on rents, and bolsters property values. Now, this is a longer term trend, it won't happen overnight, but it's an important consideration for investors who keep their eyes on the horizon. (upbeat music continues)