DSTs And The R Word

Paraphrasing the movie Poltergeist II, “It’s back.”  It being recession.  We most recently discussed this in our October 17, 2022, blog entitled “DSTs and the Biden Recession.”  Despite the current administration’s semantic gymnastics defining away the common interpretation of recession, “It’s back.

It’s back in the form of the once mighty tech industry’s accelerating layoffs; Microsoft just announcing its plan to lay off 10,000 employees, or 5% of its global work force due to a shaky economy.

Quoting Microsoft Chief Executive, Satya Nadella, that “companies globally had begun to exercise caution as some parts of the world are in recession and other parts are anticipating one.” (WSJ 1/19/23).  This, coming on top of massive layoffs from Amazon, Apple, Meta, Intel, etc.

It’s also back in the shape of plunging retail sales.  Retail experienced its biggest drop since 2022 as rising interest rates, inflation and lower real income hit consumers hard.  Purchases at stores, restaurants and on-line all turned down during December, which is typically the peak sales month of the year.

The lag effect of elevated inflation, lower real wages and higher interest rates is now weighing heavily on American households.

“The housing market is clearly in a recession the manufacturing sector is teetering on the edge of a recession and we are (starting) to see some signs that the job market is faltering.” (David Donabedian, Chief Investment Officer at CIBC Private Wealth US).  The Federal Reserve’s fight against inflation is working but not without cost.  The covid stimulus party is over and the hangover is beginning.

How can income property investors protect themselves from this long-delayed reckoning?  We believe it’s worth considering investing in that commercial property type which historically has proved the most durable, self-storage.

The demand drivers for storage are, death, divorce, downsizing and dislocation.  All these things tend to go up when the economy goes down.  As such, a strong argument can be made for the contra-cyclical nature of this asset class.

Storage has also enjoyed stronger tailwinds from Covid than any other commercial property type.  The pandemic and attendant lockdown were world class dislocation events.  With normal life and work patterns disrupted for over two years, lots of things and people got moved.  Storage was one of the primary beneficiaries.

Post Covid, this has abated very little.  More millennials are now working from home than ever before and this has had a big ripple out from a lifestyle standpoint.

With home now being the staging point for both family and work, more is being done in the same small space.  Hence, the need for additional storage.  If you can’t build it, (an addition) you have to rent it (storage).

This increased demand for storage is most pronounced in suburban markets.  Again, driven by millennials.  These are the same people who postponed marriage and rented expensive apartments or condos downtown reveling in the night life.

Fast forward a decade or more and they are now migrating to the suburbs in droves trying to form families and finding housing both limited and expensive.

Affordability is exacerbated by rising mortgage rates.  Assuming availability, this translates directly into smaller homes.  Smaller homes + bigger families = increased storage demand.  Therefore, the supply/demand ratio for storage going forward looks very healthy.  Storage is still very much a growing asset class unlike retail and office.

Its month-to-month rent structure also makes it very attractive as a potential inflation hedge.  We have written at great length regarding the desirability of operating assets in an inflationary environment.  Their multiple tenants and short lease intervals typically allow for much greater flexibility in terms of rent increases than do single tenant triple-net-lease assets.

Storage, with its monthly lease intervals, is the final distillation of this.  This is why it is one of the most popular commercial property types with institutional investors.  As mute testimony to this, their capital aggregates from a purchase standpoint have gone from about $50 million to a low of $15 million.

Finally, of the approximately 55 thousand storage units existing, 75% of them are still owned by mom and pops.  This means there is still great aggregation opportunity in the space.  By consolidating and rationalizing ownership institutionally, great increases in efficiency may be achieved along with real technological improvement.  Ultimately, this may help decrease operating costs and increase profitability.  What are you waiting for?


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