Niche Sectors
CUSHMAN & WAKEFIELD RESEARCH
As investors seek alpha returns and hone their portfolio diversification strategies, the institutionalization of commercial real estate has increasingly extended outside of the five core property types into niche real estate alternatives. Such mounting institutionalization of CRE’s niche sectors has contributed to a meaningful shift in the composition of overall CRE capital markets activity. Since 2007, niche assets have captured a continuously growing share of U.S. transaction volume: from 9% in 2007 to about 15% from 2017-2019 to approximately 20% up through Q3 2023. It’s not just the share of activity that is compelling—total niche asset sales volumes have surpassed that of both hotel and retail since 2019—but with budding investor interest, these sectors have also demonstrated remarkable counter-cyclicality and stability relative to the broader CRE capital markets landscape. Through the first three
quarters of 2023, niche transaction volume has also fared well, with volume off just 4% from its
2017-2019 average, compared to a 28% decrease for all property types.
📣 Jacob Albers, Head of Alternatives Insights
With their unique operational nuances, niche assets tend to be favored more by “specialized, sector-specific investors” that possess specific expertise in these highly specialized fields. Historically, there has been less competition from large institutional investors. As the return enhancement and diversification qualities of these sectors has drawn larger pools of global capital into the field, however, there is an increasingly competitive race to carve out niche investment platforms that can also offer exposure, scalability and concentration. Investors seeking to increase their niche portfolios have fueled robust price appreciation, a trend which is expected to continue. According to the most recent AFIRE investor survey, 32% of respondents expect an increase in value for alternative assets over the next 12 months compared to 12% for industrial and residential.
Single-family Rentals (SFR)/Built-for-Rent (BFR): Shifts in single-family home purchase conditions have played a sizable role, driving both SFR and BFR demand-side tailwinds. For example, delayed rates of marriage and childbirth have substantially postponed home buying for Millennials compared to prior generations. In addition, today’s structural imbalances in the housing market, including higher mortgage costs as of late, will likely keep this generation renting longer, and the SFR/BFR sector should see outsized demand as a result. These properties tend to achieve lower tenant turnover rates, implying demand should be more resilient in the face of a recession. However, the sector is facing substantial new supply at around 16% of today’s (small) inventory, which may moderate the pace of rental growth in the near term. The market is nevertheless likely to swiftly regain balance as strong demographics drive healthy leasing activity.
Student Housing: Enrollment in college and universities continues to rebound post-pandemic, with forecasts suggesting the total number of students will trend toward 20 million by the end of the decade. In an era of uncertainty, steady and predictable demand growth is of increasing priority, and historically, a growing student population is as predictable as it comes. Student housing rental growth has been less robust than traditional multifamily markets since the pandemic, averaging 3.7% since 2020 for student properties compared to 5.2% for traditional multifamily—all due to increased uncertainty and softened demand related to pandemic-induced remote learning. While some smaller, less prestigious colleges have struggled over the past several years, investors are likely to focus their efforts on larger institutions, particularly highly-ranked research and sports institutions that continue to see growth as class sizes retain or surpass pre-pandemic levels.
Senior Housing: An aging population continues to create significantly more demand for senior housing. The population in the 75+ age range is expected to increase by over 50% in the next twelve years, substantially more than the 32% growth since 2010. Such a dramatic rise in necessity-based demand suggests that the current senior housing capacity and pipeline will fall far short of demand. To meet this growing demand, we estimate needing an additional 35,000 units of new supply per year through 2045, ahead of the current pace of roughly 25,000 units. In the years ahead, expect renewed interest from investors across the sub-sectors (i.e., independent living, assisted living, memory care) as construction will race to keep up with growing demand.
Life Sciences: Headwinds impacting the life sciences sector in 2023 included a slowdown in venture capital funding and a softening of leasing fundamentals. Companies that were affected by lower VC availability laid off workers and maintained or decreased their existing leased footprints. New lab and cGMP (Current Good Manufacturing Practice) deliveries scheduled in 2024 will put upward pressure on vacancy rates and asking rents. A recent uptick in VC funding, coupled with the creation of several life sciences-focused funds, gives the sector reason for optimism that 2024 will be a return to more normal activity levels. Underlying demographic trends, strong research and development pipelines, and recent innovations in drug discovery will continue to fuel life sciences growth and lab space demand.
Data Centers: Demand for cloud computing and storage continues to grow dramatically, driving substantial growth in the data center market. While many industries have pushed demand, most recently the rise of artificial intelligence (AI) is set to have a significant impact on the sector, as major tech companies seek to build portfolios of specialized data centers focused on training and deploying AI/Machine Learning (ML) models. This, along with power constraints in major markets, has pushed interest into tertiary and rural markets in the Midwest and the Sunbelt. Meanwhile, demand for cloud space continues to push growth in well-established markets (such as Northern Virginia, Atlanta, Chicago, Silicon Valley, Dallas and Phoenix). Vacancies are at or near record lows across the country, with all major markets reporting sub-5% vacancy. Lease rental rates, which had historically been on a downward trend due to larger scale deals and stronger tenant leverage, have begun to rise as available space is valued at a premium. Going forward, expect power constraints to drive high competition for development opportunities, which will correspondingly lead to continued tight market fundamentals with above-normal rent growth as hyperscalers voraciously absorb available space.
Healthcare & Medical Office: Driven by many of the same demographic trends as life sciences and senior housing, healthcare assets or medical office buildings (MOBs) are growing as healthcare spending increases and constrained labor pools begin to expand. In fact, the growth in healthcare labor has exceeded the growth rate of medical office construction for the past two years. While demand has been dramatic and inelastic, healthcare systems have struggled as operating margins have evaporated due to higher labor costs, funding shortfalls and margin loss to outpatient facilities. As with other asset classes, the capital markets remain illiquid though asset performance continues to remain strong, with average national occupancy at 91.2% and rent growth ranging from 2.5% to 3.5% in many markets. Key questions for the sector will include the future extent of labor pool growth, the extent of office space consolidation by health systems and the rising interest in converting traditional office toward healthcare uses.
Lodging: The lodging sector has held up fairly well coming out of the pandemic, both in terms of fundamentals and investment metrics. Once restrictions were lifted, vacationers were eager to leave home and have offset some of the slowdown in business travel. Following substantial declines in both 2020 and 2021, average daily rates and RevPAR have both bounced back and reverted to trend growth in 2022 and 2023, but performance is moderating with inflation eroding discretionary spending, a strong dollar making international travel more desirable (for Americans) and the specter of a potential recession. Inflation and high interest rates have dampened new supply coming online as higher costs and the challenge of obtaining financing have made construction more difficult. The schism in market health between tourist destinations and business destinations is apparent, with markets such as Orlando, Las Vegas and Orange County performing well, while San Francisco, Minneapolis and Philadelphia are still trailing their 2019 RevPAR levels. A rapid drop-off in construction from already tempered levels, in combination with renewed consumer interest in experiences and travel, will limit the downside for the sector as it has already “taken its medicine.” Drivable tourist destinations should continue to hold up better, while business-centric hospitality markets will face challenges from tightening corporate travel budgets. The strength of the dollar will act as a brake on international travel generally, but a bounce-back in travel from China could be an upside risk.
