Despite choppy growth, the current business cycle has lasted longer than average, surpassing 78 months. In 2014 and 2015, the economic growth rate was about 2.4 percent, and it’s expected to fall within the 2 to 2.5 percent range this year, according to Marcus & Millichap. The commercial real estate brokerage firm presented a webcast yesterday to discuss macro trends, potential headwinds, and the outlook for the hospitality sector moving forward. Amid global growth concerns, caution levels are elevated among investors.
“If you’re in the hotel business for the long term, we’re at a point in the cycle where you really need to drill down to the micro markets, study hard, and figure out where you want to be, what you want to do, and how much risk you want to take,” advised Ben Brunt, principal and executive vice president of acquisition and development at Noble Investments.
The United States added approximately 2.7 million jobs in 2015 and is projected to add 2.5 million this year. While there may be volatility on a month-to-month basis, the numbers have smoothed out to an average of 600,000 to 700,000 jobs per quarter over the last several years, explained John Chang, first vice president of research services, Marcus & Millichap. “This is actually turning out to be a very good, steady cycle for businesses and employers. Even though we’re not getting that big giant pop that everybody wants to see, that steady momentum that is stretching this growth cycle out is actually working in our favor.”
The employment rate is an important indicator to watch because it’s the most fundamental aspect of our economy, added Andrew Alexander, president of Red Roof Inn. “Employment usually means travel and success for the hotel industry,” he said. “Right now, it’s defying all the other noise going on around it and continues to chug along. You might see some extended volatility in the hospitality market, but we probably are in for at least another good 12 to 18 months as long as that factor keeps chugging along.”
U.S. Treasury rates have fallen to 1.75 percent as investors seek the security of bonds. Weakening international economies are pulling more money into U.S. Treasuries, driving rates down. While this adds an aspect uncertainty in the investment community, there are still good opportunities to be had in the real estate sector, Chang said. “Low rates are conducive to business, but people are still a little concerned about what that means for the broader economy.”
Chang described the dip in oil prices—below $30 a barrel—as a double-edged sword. On one hand, oil producers are using cash flow to feed bonds, which has pushed rates on lower-grade bonds up about 420 basis points in the last couple of years, he said. “Should that get worse, there is potential that could take some of the liquidity out of the capital markets,” Chang said. Meanwhile, consumers are saving money at the pump, which they can put toward discretionary items, including travel. “That expands the opportunity to drive demand for hospitality as we go forward.”
Wage pressure in the hospitality sector is one of the most concerning issues among investors, Chang said. In the last year, hospitality wage growth increased about 5 or 6 percent, compared to 2.1 percent in the broader economy, he said. The industry has been able to absorb outsized wage growth because it has had outsized growth relative to other sectors, Brunt added. “When we’ve had 8, 9, or 10 percent RevPAR growth in certain markets, you can afford to pay your employees more.” As RevPAR growth flattens or levels off, however, wage growth pressure will have more of an impact on hotel profitability, Brunt said.
Filling job openings, particularly in the housekeeping segment, remains a challenge for Red Roof, Alexander said. To entice younger candidates into the housekeeping field, the company has taken a variety of approaches, including increasing benefits and wages, encouraging more tips by customers, and offering advanced training. “It’s definitely a problem, and you’ll start to see overtime on the rise as well as a result, when we can’t fill the positions,” Alexander said.
SUPPLY AND DEMAND
Demand has outstripped supply dramatically over the last few years coming out of the recession, driving occupancy gains. Supply has been slow to answer but is moving into alignment with demand, said Peter Nichols, national director of the National Hospitality Group at Marcus & Millichap. The supply growth forecast for 2016 is just shy of 2 percent, with demand only slightly ahead of that. “The strong dollar is projected to impact international travel, so markets that have had significant supply growth may feel that impact,” Brunt said. “The hope is some domestic travel due to lower oil prices and continued consumer confidence can help make up for some of that.”
The upper midscale and upscale segments accounts for about 70 percent of development right now, with about 45,000 rooms in each of those categories, he added. Other chain scales are lower on the development cycle. “It’s kind of bunched up in the center, and we could start to see some movement of existing properties into lower chain scales as they become outmoded by new construction,” Nichols said. “This is creating new opportunities as we move forward.”