Ready for some good news? Never have prices been higher for self-storage properties, either in absolute dollars, per square foot, or in relation to the income they produce. Over the last year we have seen self-storage values rise dramatically. For the last several months we have been talking about how the self-storage sector will perform through the pandemic and resulting recession. Remarkably we have seen cap rates compress 10-20 basis points and values on average have risen 1.8%-3.7% in 2020! With all of the hype surrounding the self-storage sector today and a record amount of capital seeking safety and consistent yields, self-storage is once again proving to be a CORE asset due to its long-term performance history in good times and bad. Let’s review three things we have learned in 2020 that will continue to impact the opportunities in self-storage sector.
First, it is clear that the low interest rate environment has extended the self-storage valuation run along with all commercial real estate. The spread between the 10-year treasury and self-storage cap rates is currently around 453 basis points (compared to the 20-year average of 395 basis points), indicating that we have some runway left in value appreciation. The fluid nature of the self-storage lending market today has also injected confidence into the sector as we are seeing all debt providers (banks, CMBS, Life, Credit Unions, etc.) willing to quote self-storage loans and in many cases, compete for self-storage loans, resulting in very competitive terms. Today we are finding that traditional financing with leverage in the 70%-75% range is available with interest rates in the 4%-4.5% range and a 20 to 25-year amortization. Lower leverage loans that are 65% loan to value or less are able to obtain even more aggressive terms with interest rates in the 3%-3.75% range with 25 to 30-year amortization and in some cases interest only for 3-10 years.
Secondly, the market segmentation between Class A, B, and C properties is more defined than ever. Below I have outlined some basic rules of thumb to better explain what constitutes each class of property within the self-storage sector. However, we have learned in 2020 that the Class of each property has less to do with the resiliency of the income than once thought. In 2020 we have seen the most resiliency in Class B and C assets and we expect this trend to continue.
• Located in the top 100 MSAs and 45,000 NRSF or larger
• The physical build will be in good condition and have some component of masonry, the driveways will be an impervious surface (not gravel) and the property will be fenced, gated and have a rental office
• The net operating income (NOI) per net rentable square foot will be $10 or more
• Located in a market that is within 100 miles of a top 100 MSA and 25,000 NRSF or larger
• The physical build will be in good condition, the driveways will be a mostly impervious surface (gravel is okay for RV/boat storage) and the property will be fenced, gated and have a rental office
• The net operating income (NOI) per net rentable square foot will be $6 or more
• Class C properties can be located within any market and are typically 30,000 NRSF or less but if the property is located within a secondary or tertiary market, the property may be larger than the stated size above
• The physical build will be limited, the driveways can be gravel or an impervious surface and the property may or may not be fenced, gated or have a rental office
• The net operating income (NOI) per net rentable square foot will be $5 or less
Lastly, an owner’s, developer’s, or broker’s ability to properly evaluate future market demand is the single most important factor in making the right decision now and in the coming year! Many industry experts have pointed out that overbuilding has caused softening in the rental rates and lower rental rates have also led to very high occupancies among the self-storage REITs. The self-storage REITs are up about 4.85% as of the end of October and reports that new construction is contracting have led many investors to feel optimistic about 2021. However, the one thing I think we have all learned over the last few years is that the Achilles’ heel of self-storage is oversupply. As we see a record number of new investors entering the market in search of safety and consistent yields, it is important to be mindful and understand that we will not always be at 90% occupancies. As the industry has matured, industry data and information has become a lot better but the ability to properly evaluate the submarket is still what has distinguished the winners from the losers.
We are all very thankful to be in the self-storage sector today and these are absolutely the best of times for both CAREFUL buyers and sellers. The prize will go to those who ANALYZE their competitive situation and take ACTION during these very unique times. Remember, many of the topics discussed above are out of your control and a change in any one of them may limit or eliminate your options. It is always better to be a year too early than a day too late! Happy Thanksgiving!
Ben Vestal, CEO of Argus Self Storage Advisors, can be reached at 800-557-8673 or firstname.lastname@example.org.
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