“Steady-as-she-goes” is the way John Tipton of Allen Matkins describes the developer sentiment in the latest Allen Matkins/UCLA Anderson California Real Estate Survey. The semi-annual survey shows healthy development optimism throughout California in most of the major asset classes: office, multifamily and industrial. Retail optimism leaned more pessimistic, but showed an uptick in certain markets, which could mean the pendulum is swinging.
The optimistic developer sentiment may be surprising, considering the recent tariff announcements, the rapidly rising cost of construction and increasing interest rates. “Labor costs and material costs have increased, and labor costs are not just increasing because of supply and demand but also because of the tariffs,” Tipton, a operating partner at Allen Matkins, tells GlobeSt.om. “If you add all of that together, the cost of building is clearly going up. I have seen those costs impact a number of projects. These costs have made some construction projects less economically viable. We have also seen an increase in interest rates, although it is a relatively small increase, but the cost of construction is really the bigger challenge.”
The survey was conducted in June, before some major tariffs were announced in early July; however developers had shown concern about the tariffs and the potential for a trade war. “There is an element of uncertainty here,” says Tipton. “No one knows if this is a situation where both sides will reach a reasonable negotiated settlement or if they are going to dig in, in which case there could be more material economic consequences in the near term.”
The impact of the tariffs on steel and other development materials announced earlier this year have already driven costs up significantly. “I have clients right now that are pricing projects and have seen costs have moved 7% to 10% as a result of the tariffs,” says Tipton. However, these costs didn’t seem to impact new development starts or the desire to start new projects, likely because developers believe these costs will be offset by rising rental rates.
Office sentiment was positive—meaning more than 50% of respondents would start a new office project in the next three years, in all California markets surveyed except Orange County, where the mark fell just below the optimism line at 47.3%. In San Diego, developers just squeaked by with 50.86% of respondents optimistic on office development in the next three years. For multifamily, San Francisco and the Silicon Valley were the only two markets to shown pessimism for multifamily development, with a score of 46.41% and 45.13% respectively. Multifamily construction remains strong, however, throughout the state. “The tax plan was not particularly nice for homeownership if you live in California,” adds Tipton. “On a relative basis, that makes multifamily rental properties more attractive.” Industrial was the only market with positive sentiment for new construction in each of the markets surveyed. Unfortunately, retail did not have as positive a response from developers. It received pessimistic marks in each market with the exception of the Silicon Valley, where 54.52% of respondents were optimistic about retail development in the next three years.
Only time will tell if the rising construction costs will deter new construction. For now, the long and healthy cycle is continuing to fuel activity well into the future. “The length of this recovery has been caused because we didn’t have that V-shape coming out of the recession,” says Tipton. “We have had a plotting but steady recovery, and you still have economic growth and job growth occurring. Those are things that keep real estate moving in a positive trend.”