2024 mid-year commercial real estate review

As we transition into the third quarter, the Northern Nevada market experienced notable changes in a choppy environment. Despite challenging conditions, like an election year, increased interest rates, and more stringent lending requirements, our market is still a place where companies want to operate and relocate. Costs of construction, labor availability, and housing remain a challenge. The mid-year recap is made possible by our research department and broker teams.

Sales Overview:

From a sales perspective, the year has been up and down. Over the first seven months, overall sales transaction volumes have averaged $97,290,529, marked by both solid and weak months. Washoe County experienced its strongest month in May at $160,420,989, and the lowest month was June at $34,971,688, signifying the variability of the market. Investors and owner-users continue to face difficulties due to elevated interest rates and stringent lender underwriting. This environment, characterized by a bid-ask gap, led to a stalemate in many cases, particularly for non-institutional buyers seeking higher cap rates. There is potential for rate relief this fall, which should lead to an increase in sales transaction volumes.

Industrial:

Direct vacancy in Northern Nevada’s industrial sector has increased significantly to 8%, a notable rise from the historically low vacancy rates seen before 2024. Net absorption has turned negative for the first time in a while, as supply and building deliveries continue to outpace demand. This shift is leading to softening rental rates and creating a more balanced market.

Office:

Quarter 2 of 2024 direct vacancy in the office sector has risen slightly to 10.03%. Despite the increase in vacancy and negative absorption, total gross absorption has exceeded 100,000 square feet for the third consecutive quarter, with 142,747 square feet in Q1 and 125,392 square feet in Q2. This represents a 36% increase in gross absorption from Q2 2023, signaling positive momentum and greater stabilization; the most since the pandemic. The state has played a significant role in this stabilization leasing over 100,000 square feet in 2024.

Construction costs and underwriting/lending hurdles remain challenges in office development. However, this has created a surge for Class A office space particularly in the Downtown and Meadowood submarkets, which continue to see relatively strong leasing demand across diverse industries. This spans from traditional tenants like law firms and finance to newer sectors such as logistics, energy and technology.

We expect tenants to continue to "right-size" space needs. While this trend presents challenges in achieving consistent positive net absorption, the Reno office market is in a better position than years past. However, office sales have been notably slow in 2024, with Q2 volume hitting the lowest figure in the past four quarters.

Retail:

The retail market has faced ongoing development obstacles, including elevated construction expenses and the need to address escalating inflation. Nevertheless, retail fundamentals for infill development near housing growth remain favorable.

The overall vacancy rate is 3.9%, and with the lack of available spaces, competition for these spaces is driving lease rates up. From a sales perspective, the Washoe County retail market continues to perform compared with other asset classes in Q2 showing a slight uptick compared to Q1. Retail vacancies maintain historically low, indicating strong demand amid shrinking supply. Similar to last quarter, retail continues to be a focus for investors and owner-users in Reno/Sparks. Interest rates throughout the year will still lay the foundation for how the retail market's transaction flow will develop for the remainder of 2024.

Healthcare:

Reno's medical office market maintained steady activity, with deals ranging from single practitioners returning to private practice to larger groups consolidating offices, reducing costs. The scarcity of space in Reno/Sparks has driven up rental rates by an average of 8% since the end of 2023. Despite challenges with construction costs, there is evidence of stabilization, and in some larger projects, even a slight decrease in cost per square foot. This trend provides some relief to medical office developers and tenants.

To stimulate leasing activity for shell space, tenant improvement allowances have increased by 18% from 2023, reducing the upfront capital required. This strategy aims to make leasing more attractive and financially feasible for medical practices. As we move into Q3, we expect to see a rise in both renewal and new leasing activities, driven by these incentives and the ongoing demand for medical office space. The combination of increased tenant improvement allowances and slight decreases in construction costs is likely to boost leasing activity, making it opportune to secure new office spaces or renew existing leases.

Multifamily:

In Q1 and Q2, multifamily sales volume included 41 sales, totaling $150,218,248 (averaging $248,660 per door) in Washoe County. Many multifamily deals transacting include duplexes, and a couple of larger institutional sales. As we adjust to price fluctuations driven by elevated interest rates, the bid-ask spread continues to widen. In this challenging economic climate, characterized by stricter lending guidelines and higher borrowing costs, stringent underwriting remains vital for accurately assessing risk-adjusted returns.

With lenders offering reduced loan proceeds, buyers are compelled to evaluate their liquidity limits and the implications of committing substantial capital to a single asset. This has led to a noticeable rise in seller financing, which appears to be sustaining property values that might otherwise be out of reach in the current debt environment.

Average rental rates increased from $1,639 in Q1 to $1,660 in Q2. Interest rates continue to impact rental demand, as rates have remained relatively flat in 2024. The total number of planned or under-construction units plummeted from 8,514 last quarter to 3,654 in Q2. Key factors restraining new supply, include lack of developable land, rising capital costs and construction expenses. On the demand side, job growth continues to surge as businesses expand or relocate to the region. Nevada is seeing some of the highest rates of inbound migration in the country, and the obstacles of affordability in single-family homes are boosting demand for multifamily housing.

Tom Fennell is a principal and managing broker of Dickson Commercial Group. After graduating from the University of Nevada with degrees in Finance and Accounting, Tom began his career in his native Reno with Dickson Commercial. In 2014, Tom along with partners Scott Shanks, Dominic Brunetti, and Harvey Fennell formed Dickson Commercial Group, a full-service commercial real estate firm based in Reno. With over 14 years’ experience in the Northern Nevada market, Tom has been able to achieve an in-depth knowledge of the local and regional markets.