Phoenix Market Spotlight
Population growth, a diversifying economy, relative affordability, and a business-friendly environment have strengthened the Phoenix value proposition and made the metro a top market for net migration. These characteristics have attracted new residents and businesses to the region, allowing Phoenix to be one of the country’s most dynamic markets. According to the U.S. Census Bureau, in 2019, an average of 212 people moved to Phoenix daily. Despite Arizona becoming a hotspot for COVID-19, which dampened the likelihood for a quick recovery, many people living in dense and expensive cities have considered a move to the Valley of the Sun in search of job prospects and affordable cost of living.
Before the COVID-19 outbreak, the Phoenix multifamily market fundamentals were stable and supported by some of the country’s most robust employment and household growth metrics. Construction activity has continued in Phoenix, nearly undisturbed by the pandemic, and the immense population growth has helped the multifamily market absolve the wave of supply. The demand for apartments has kept vacancies tight, although the pandemic’s economic repercussions will soften the demand over the next several quarters. Further, limited single-family construction has pushed some potential homebuyers into the renter pool. Tight vacancies have contributed to ample rent growth, which has consistently ranked among the nation’s best during the past two years. Rent growth has been the strongest for 3 Star properties, which house many of the service workers facing financial hardship due to the virus. Since reaching a trough, asking rents have started to rise again, and have recently surpassed the pre-virus level.
Until the pandemic disrupted the market, the Phoenix office market boasted consistent positive performance. The market was supported by robust employment growth and relatively limited new supply, delivered over the past decade. Since COVID-19, leasing activity has slowed, sublease availabilities have risen, and transaction volume has tumbled. Over the past several years, demand for office space had outpaced supply, and the lack of new deliveries supported these metrics. This helped keep vacancies compressed, translating into some of the healthiest rent gains in the country. The market is currently on pace to receive an increase in speculative supply over the next several quarters, amid weaker demand, putting upward pressure on vacancies. The recovery will depend on how quickly the health situation improves and how comfortable people feel about returning to the office.
Similar to other sectors, job and population growth supports the retail demand in Phoenix. California investors remain particularly active as Phoenix assets provide an attractive yield spread over Southern California properties. In the face of an evolving industry, the retail market has also remained resilient due to positive demand drivers and a conservative supply pipeline. However, the economic disruption caused by COVID-19 has created significant headwinds for the market, which has become evident in the retail metrics. Fortunately, the Phoenix retail market is better positioned than in years past, thanks to moderation in new supply. Retail development has been limited to build-to-suits and heavily preleased grocery-anchored retail centers since the Great Recession. The slowdown in construction has enabled retail vacancies to return to historic lows, though the rate remains well above the national index.
Despite a temporary downturn in sales activity due to COVID-19, Phoenix’s medical office market remains healthy. It is expected to be one of the industries to bounce back the fastest from the pandemic. As Phoenix continues to see population growth, demand for healthcare services also increases. In Q2 2020, the height of the pandemic, over 200,000 square feet of inventory was delivered, the most amount of new supply since 2017. Rents have increased and are expected to continue to grow in the greater Phoenix area in Q4 2020. Leasing and investment sales fell, but once market conditions improve, there are many paused deals on the sidelines waiting to be completed. Tenants need to rebuild confidence before leasing, which will require people to return to work.
Industrial is expected to fare better than other commercial property types due to changes in consumer behavior. Last-mile delivery operators and logistics companies have seen an increase in demand due to the rise in online orders. The robust population and job growth in the Valley of the Sun have bolstered a rapidly growing consumer base in Phoenix and surrounding metros as well. Amazon signed several leases since the start of the year for both small (under 200,000 SF) and extensive distribution centers in the Phoenix market. However, supply-chain disruptions have weakened manufacturing demand, and a curtailment in consumer spending is affecting nonessential e-commerce retailers. Structural elements and Phoenix’s strong demand drivers remain in place. Phoenix has also become one of the most active data center markets in the country due to Arion’s tax incentive for data center development, a robust and growing power grid, and limited natural disasters.
With strong population fundamentals, relatively few barriers for development, and limited supply across all commercial real estate subsectors, it is expected that Phoenix will come out of the pandemic strong and in the lead. Especially with an up-and-coming job market and affordable cost of living, there will be increased suburbanization of renters moving to the Valley of the Sun. For more information on the Phoenix market, please contact a Matthews™ specialist.