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Real estate cycle conditions & their main economic driver.


Commercial real estate in the Memphis area is weathering a recession, as are markets nearby and across the nation. Integra Realty Resources (IRR) provides an annual real estate market cycle analysis (free to download at that listed the Memphis, St. Louis, and Tulsa office markets as being in that company's stage two of recession at the beginning of 2011, while Nashville had moved into stage three--the last and lowest point of recession. Recession in their taxonomy is characterized by high-and-increasing vacancy rates and moderate-to-low new construction. Construction being completed generally would not have been deemed feasible if conditions had been anticipated as construction began. Recession definitions also include low absorption, where new sales and rental rates may be so low that there is negative net absorption.

The IRR real estate market cycle description also includes a non-real estate statistic. "Low-to-Negative Employment Growth" is a formal part of a standard real estate cycle definition of recession. Other real estate perspectives give employment trends the highest status in explaining real estate demand. For example, candidates for status as Certified Commercial and Investment Members (CCIMs) of the Realtors learn to forecast demand in every sector of commercial real estate by forecasting local area employment in their required course, "Market Analysis for Commercial Real Estate, CI 102." Real estate brokers learn how to identify base industries for local areas by studying employment proportions across industries, to compare those proportions to national figures (for "location quotients"), and to study trends in employment that show local area industry strengths and weaknesses relative to overall national trends in employment and trends within industry categories.

This article describes two sets of real estate market cycle reports for the various commercial real estate sectors from Professor Glenn Mueller's Cycle Monitor--Real Estate Market Cycles (downloadable free from its sponsor Dividend Capital at and from Integra Realty Resources' IRR-Viewpoint. IRR Memphis data come from Walter Allen, noted member of the Appraisal Institute and a member of the Board of Integra Realty. Since the labor market is recognized as the key demand driver for all real estate, this article also shows how Shelby County labor markets have developed over the last ten years, applying the analysis now learned by many CCIMs.

Real Estate Cycle Conditions

The IRR-Viewpoint 2011 showed stage two recession conditions in not only the Memphis office market, but also the retail market, as well as the St. Louis retail market. Nashville was deeper in recession, at stage three, but the Tulsa retail market had moved from recession into the first stage of recovery. The Memphis apartment market was rated as having moved through the recession trough to the first of three steps of recovery, along with Tulsa and St. Louis. Nashville was still in stage three recession. The Memphis industrial market was the only one of these four regional markets to show the first signs of recovery at the start of 2011.

The most recent Mueller report is for the third quarter of 2011. The Dividend Capital Cycle Monitor rates national markets in one of sixteen stages of his model of the real estate cycle, where stage one is at the trough between the low point of the recession and the first onset of recovery, and stage sixteen is just before the end of recession. Stage sixteen comes just before stage one. Across the U.S., office markets were in the trough at stage one, including Memphis, New Orleans, Oklahoma City, and St. Louis. Nashville was one step out of the trough at stage two. Retail markets in Memphis, Nashville, St. Louis, and the overall U.S. market had just moved from stage one to stage two, joining Oklahoma City, but leaving New Orleans. Apartments were just out of the trough at stage two in Memphis, Oklahoma City, and St. Louis. New Orleans stayed in cycle trough conditions, while the overall U.S. retail market and Nashville moved to stage three. Industrial and warehouse markets in the U.S., Memphis, Oklahoma City, and St. Louis stayed in stage two, while Nashville and New Orleans industrial markets stayed in the trough of the real estate cycle. In Mueller's cycle model, feasible new construction seems far away, at stage eight. Given the long lags common in real estate development, builders may start tentative planning and acquisition steps soon, hoping to time development so as to be "shovel ready" when stage eight occurs.

After the second quarter of 2011, Memphis office markets are in Mueller's stage one trough, along with St. Louis, Oklahoma City, New" Orleans, and the nation on average. Nashville is one step ahead in beginning its office market recovery. Memphis industrial markets are in stage two, along with the national average and St. Louis and Oklahoma City. Lagging behind at stage one in the industrial markets are Nashville and New Orleans. For apartment markets, Memphis is in stage two, as are Oklahoma City and the national average. Nashville leads in this asset type in stage three, but St. Louis and New Orleans remain in the trough of the recession. Retail is largely still in recession trough conditions for the national average and for Memphis, Nashville, and New Orleans. In these data, Oklahoma City rated stage two status in its recovery, reflecting second quarter 2011 conditions in retail.

To summarize the real estate cycle conditions, many Memphis regional commercial real estate markets are still in recession, some are in the trough between recession and recovery, and a few have taken the first tentative steps out of the trough. Commercial real estate markets have suffered recessions in other cycles from speculative overbuilding. It seems that the latest cycle is different, despite high vacancy rates. A view of the labor markets shows why this real estate recession was caused by a decreased demand for space for workers in the office and industrial sectors. A lack of employment growth also led to decreased demand for apartments and for the consumer activity that supports the retail real estate sector.

Labor Markets Driving Real Estate Markets

The Bureau of Labor Statistics provides up-to-date labor market data at its Economy at a Glance site, free at After selecting a region, state, or local area, the most current labor market data are provided above a set of tools and "calculators" at the bottom of the site. Table 1 is derived from a report generated by selecting "Location Quotient" from the calculator bar on the site for Shelby County. Using the NAICS industry sector categories, Shelby County employment figures for 2010 are compared to national employment levels.

For example, Shelby County employment in Construction (NAICS code 23) was 15,196 averaged over the four quarters of 2010. That represents 3.81 percent of total Shelby County private employment. U.S. Construction employment averaged 5.17 percent of total private employment. The under-representation of that sector of the Shelby County economy gives it a "location quotient" that is less than 1.00, 0.74 = 3.81/5.17.

A quotient larger than one indicates that an industry sector has locally stronger representation than do national proportions. The 3.48 ratio for Transportation and Warehousing means that the local economy is apparently exporting those services to the rest of the nation. Wholesale Trade, Administrative and Waste Services, and Real Estate and Rental and Leasing round out the four sectors of the Shelby County economy that have stronger employment proportions than are typical for the U.S. economy.

Some readers may be surprised with the industry sectors that are close to 1.00--indicating no more than normal employment in the local economy. Retail Trade (now 0.95) was once a base industry for Shelby County, with many consumers from surrounding counties traveling to Memphis for their shopping. Health Care and Social Assistance, with a location quotient of 0.99, does not seem consistent with the area's reputation as a center for medical care. The 0.95 location quotient for Accommodation and Food Services would counter arguments that the area is a tourism and convention center, as would the 0.61 figure for Arts, Entertainment, and Recreation. The area's reputation for several decades as a financial center is put in doubt by the 0.76 location quotient for Finance and Insurance in 2010. Many readers already know that the Manufacturing sector is small in the local area, confirmed by a 0.81 location quotient.

To explain some of these surprising results, it is useful to exploit the added detail available in the labor market data. Table 1 shows location quotients calculated from the "two-digit" NAICS industry sector definitions. More detail appears if the request is for three-, four-, or five-digit definitions. International Paper has its headquarters in the local economy, and the location quotient for Paper Manufacturing (NAICS 322) is 3.62, despite Manufacturing (NAICS 31-33) having only a 0.81 location quotient. Miscellaneous Manufacturing (NAICS 339), Beverage and Tobacco Product Manufacturing (NAICS 312), Chemical Manufacturing (NAICS 325), Petroleum and Coal Manufacturing (NAICS 324), Machinery Manufacturing (NAICS 333), Electrical Equipment and Appliance Manufacturing (NAICS 325), and Printing and Related Support Activities (NAICS 323) are in a set of seven classed as exporting manufacturing subsectors with location quotients higher than one.

NAICS code 492 is Couriers and Messengers, which has a 12.87 location quotient. The proportion of local employment being more than twelve times the national proportion tells the importance of FedEx to the local economy. Air Transportation (NAICS 481), Water Transportation (NAICS 483), Truck Transportation (NAICS 484), and Warehousing and Storage (NAICS 493) all contribute more than double the proportion of employment locally than is typical in the U.S.

NAICS code 441 is MotorVehicle and Parts Dealers, with a 1.34 location quotient. AutoZone's headquarters in the local economy explains part of how this sector of retail is not below average, despite the 0.95 location quotient for all of Retail. Only five subsectors of retail are not below 1.00, including Health and Personal Care Stores (NA1CS 446), Furniture and Home Furnishing Stores (NAICS 442), Clothing and Clothing Accessories Stores (NAICS 448), and Sporting Goods, Hobby, Book, and Music Stores (NAICS 451).

Hospitals (NAICS 622), with a location quotient of 1.27, are an export sector, while the other subsectors of Health Care and Social Assistance are relatively small, with a location quotient of 0.99 for NAICS 62. Likewise, the 0.76 location quotient for Finance and Insurance (NAICS 52) obscures the importance of NAICS 523, Securities, Commodity Contracts, and Investments, with a 1.13 location quotient. The low employment representation for tourism-related sectors seems valid. Only one three-digit subsector related to tourism, Accommodations and Food Services, Arts, Entertainment, and Recreation, has a location quotient above one. Museums, Historical Sites, Zoos, and Parks (NAICS 712) has a 1.30 location quotient.

Proponents of location quotient analysis of labor markets as applied to anticipating and explaining changes in real estate markets call for a chain of causation as described as follows. Identify the local economy's base industries as sectors with location quotients above one. Forecast changes in base industry employment. Anticipate that the other sectors will grow to support the growth in the base/exporting industries. Forecast residential real estate demand based on total growth in jobs. Forecast industrial real estate demand from growth in industrial, warehousing, and total employment. Forecast retail real estate demand from growth in total jobs and the income from those jobs. Office demand is sensitive to total employment growth, but more so to growth in employment in the sectors that are focused on office work--sectors for Financial Activities, for Professional and Business Services, and for Information.

Trends in Employment

Data on employment growth in a local economy may support shift-share analysis, a trend analysis for explaining an anticipated growth that is closely related to location quotient analysis. Another Bureau of Labor Statistics site provides data for an analysis of changes in employment over long periods. The Census of Employment and Wages (free at shows that Shelby County lost 34,386 jobs between 2000 and the end of 2010. Total employment in Shell by County grew from 414,307 in 1991 to 498,780 in 2000, but then stalled for five years of mixed decline and zero net growth. In 2006, there was a marked rebound to the high point of employment at 508,434, but 2007 experienced small decreases that foreshadowed much larger decreases each year through 2010. Over the 2000 2010 decade, 6.9 percent of employment in Shelby County dissipated. The employment figures include public employment and other differences that make them not perfectly comparable to figures in Table 1.

A free site from the University of Georgia ( uses the Census of Employment and Wages data to perform a classical labor market, shift-share analysis. The site generates tables such as Tables 2 and 3 for the user's choice of geographic area. The purpose of shift-share analysis is to segment local area employment change into three components--the part that is just proportional to growth or decline across the U.S. as a whole, the part that just reflects national changes in particular industry sectors that are represented in the local economy, and the part that may be attributed to specially developing local competitive strengths or weaknesses in those industry sectors.

Table 2 ranks eleven industry sectors by employment importance in the Shelby County labor market in 2000. The employment changes by 2010 shown in the table become the input for the shift-share analysis. The Trade, Transportation, and Utilities sector ranks as the local market's most dominant employment source in both years, but it also shows the greatest decrease in employment--23,320 lost jobs. Education and Health Services rank as the second largest sector in both years and gained 15,143 jobs over the decade. The relatively small Manufacturing sector lost 22.3 percent of its jobs in Shelby County, while Financial Activities lost 14.9 percent.

Table 3 shows the results of the shift-share analysis of the employment change data in Table 2. The sectors have been resorted to show the sectors with the strongest "Competitive Share Component" at the top. The Competitive Share Component is a "residual" calculation, a change in employment left unexplained after accounting for two plausible causes of change in a local economy.

The first set of calculations translates the number of jobs that would be created or destroyed in the local economy if each sector had the same percentage change as seen for the overall U.S. employment figure. Between 2000 and 2010, total U.S. employment decreased 1.618 percent. Shelby County Manufacturing employment was 44,944 in 2000. Using the national overall employment decrease, that would hypothetically explain a 727 decrease in Shelby County Manufacturing employment. This hypothetical percentage change is repeated in each line of Table 3 to reflect how Shelby County employment in each sector would have suffered job losses if they were proportional to the overall national decline. If Shelby County had just replicated the losses of overall jobs in the U.S. economy, the losses would have summed to 8,065 jobs.

The second set of calculations reflects how each employment sector changed nationally (net of the -1.618 percent taken across all sectors in the prior step). Manufacturing decreased 33.6 percent nationally, 32.0 percent beyond the overall job loss percentage. If Shelby County Manufacturing employment had suffered decline in the same proportion as all Manufacturing, then there would have been an additional 14,366 jobs lost in the local Manufacturing job market. Each sector had its own national change during the decade. Table 3 details the application of each sector's net performance to Shelby County employment in 2000. The sum of these adjustments is positive--4,006.

The first two calculations for Manufacturing employment in Shelby Count}, call for a sum of 727 + 14,366 = 15,093 lost jobs. The actual change in local Manufacturing employment was only 10,015 lost jobs. Manufacturing actually did better than could be expected in Shelby County, where expectations are based on how national overall employment and national Manufacturing employment trended in the 2000-2010 period. The "Competitive Share Component" of Table 3's shift-share analysis shows that Manufacturing "grew" by 5,078 jobs relative to expectations. The trend decomposition analysis shows that Manufacturing was the premier growth sector by number of local jobs relative to expectations. Proponents of shift-share labor market analysis would anticipate that whatever local competitive advantages the Memphis area exploited over the 2000-2010 period could persevere in the future to give better than normal growth in Manufacturing employment. This situation would translate into increased real estate demand for that sector. As a caveat, the Manufacturing sector is small in Shelby County. This sector did decrease in employment by 22.3 percent during the historical period of study.

All the other Competitive Market Component calculations for Shelby County over the 2000-2010 period are negative. These results do not support great growth anticipations for employment or real estate markets. Retail and residential real estate demands are both sensitive to total employment. Office Market real estate demand growth will be dismal if the negative Competitive Share Components in Information, Professional and Business Services, and Financial Activities all repeat the recent decade's performance. All three sectors decreased in the ten-year period. As a group of three, they decreased locally more than by expectations based on national and industry trends.

The shift-share analysis of a summed Competitive Share Component of -30,327 points to special local employment problems and disadvantages that caused more weakening of the labor markets than could be explained by the national economy's decrease and the mix of industries represented in Shelby County. The nature of the problems and disadvantages are not identified in shift-share analysis.

The most negative conclusion from the shift-share analysis is for the most important sector of the local economy. Trade, Transportation, and Utilities would have lost 1.6 percent of local employment just keeping pace with national employment trends across all sectors, and then another 4.1 percent because this sector slipped in national employment relative to other sectors. Shelby County employment in its most important sector declined an extra 9.0 percent beyond those expectations. The problems and disadvantages in the local economy that caused this negative Competitive Share Component will need to be reversed to avert the stagnation that would come from an ailing sector with very high location quotients.

The current mix of industry in the local economy is not a negative factor. In fact, the sum of the Industrial Mix Components is positive. Memphis has industries that did well relative to the overall U.S. economy in the period studied.

by Richard D. Evans, PhD, Co-Director, Center for Real Estate Research, and Director of Revenue Forecasting, Sparks Bureau of Business and Economic Research, and Professor of Real Estate and Economics, Department of Finance, Insurance and Real Estate, Fogelman College of Business & Economics, The University of Memphis

Richard D. Evans, PhD, is Co-Director of the Center for Real Estate Research in the Sparks Bureau of Business and Economic Research and Director of Revenue Forecasting in a grant with the city of Memphis. He is a Professor of Real Estate and Economics in the University of Memphis Department of Finance, Insurance and Real Estate. Measuring real estate price trends is one of his interests in academic studies and funded research.

Dr. Evans specializes in real estate research: predicting housing prices, efficiency of housing and investment markets, and Memphis' adjustment to school desegregation orders. He also studies risk and predictability of labor, commodity, and real estate markets. Since 1991, he has been listed in Who's Who in Finance and Industry. Since 1987, he has been a member of the Lambda Alpha Land Economics Society. In 1982, Dr. Evans received the Memphis Chapter Annual Research Award from the National Association of Business Economists (NABE).
Table 1. Shelby County Employment Proportions Relative to National
Proportions, 2010

NAICS Code   Industry                                  U.S. Total

             Total, All Industries, Private            106,201,232
    11       Agriculture, Forestry, Fishing, Hunting     1,146,962
    21       Mining, Quarrying, Oil/Gas Extraction         651,531
    22       Utilities                                     551,287
    23       Construction                                5,489,499
  31-33      Manufacturing                              11,487,496
  44-45      Retail Trade                               14,481,324
    42       Wholesale Trade                             5,466,463
    55       Management of Companies and Enterprises     1,854,778
    56       Administrative and Waste Services           7,399,320
    61       Educational Services                        2,460,150
    62       Health Care and Social Assistance          16,196,009
  48-49      Transportation and Warehousing              3,943,659
    51       Information                                 2,703,886
    52       Finance and Insurance                       5,486,241
    53       Real Estate and Rental and Leasing          1,915,571
    54       Professional and Technical Services         7,457,913
    71       Arts, Entertainment, and Recreation         1,903,739
    72       Accommodation and Food Services            11,103,075
    81       Other Services--Except Public               4,349,563
    99       Unclassified                                  152,667

Two-Digit    Shelby       U.S.        County     Location
NAICS Code   County    Percentage   Percentage   Quotient

             399,002    100.00%      100.00%        --
    11           270      1.08%        0.07%       0.06
    21            29      0.61%        0.01%       0.01
    22            27      0.52%        0.01%       0.01
    23        15,196      5.17%        3.81%       0.74
  31-33       34,932     10.82%        8.75%       0.81
  44-45       51,424     13.64%       12.89%       0.95
    42        26,131      5.15%        6.55%       1.27
    55         4,553      1.15%        1.14%       0.65
    56        45,425      6.97%       11.38%       1.63
    61         6,609      2.32%        1.66%       0.72
    62        59,958     15.25%       15.03%       0.99
  48-49       51,619      3.71%       12.94%       3.48
    51         5,481      2.55%        1.37%       0.54
    52        15,575      5.17%        3.90%       0.76
    53         8,490      1.80%        2.13%       1.18
    54        15,821      7.02%        3.97%       0.56
    71         4,396      1.79%        1.10%       0.61
    72        39,702     10.45%        9.95%       0.95
    81        13,339      4.10%        3.34%       0.82
    99            24      0.14%        0.01%       0.04

Table 2. Employment Changes in Shelby County, 2000-2010

                    Employment,   Employment,   Employment    Change,
Sector                 2000          2010         Change     2000-2010

Trade,                158,698       135,378      -23,320       -14.7
and Utilities

Education and          86,201       101,344       15,143        17.6
Health Services

Professional and       69,029        66,656       -2,373        -3.4
Business Services

Leisure and            42,654        44,199        1,545         3.6

Manufacturing          44,944        34,929      -10,015       -22.3

Financial              28,371        24,153       -4,218       -14.9

Public                 22,587        23,409          822         3.6

Construction           22,042        15,199       -6,843       -31.0

Other Services         14,920        13,347       -1,573       -10.5

Information             8,909         5,481       -3,428       -38.5

Natural Resources         425           299         -126       -29.6
and Mining

Total                 498,780       464,394      -34,386         --

Table 3. Shift-Share Analysis for Shelby County, 2000-2010

                                        National Growth

Sector                                 Percent    Jobs

Manufacturing                           -1.6       -727
Natural Resources and Mining            -1.6         -7
Public Administration                   -1.6       -365
Information                             -1.6       -144
Other Services                          -1.6       -241
Professional and Business Services      -1.6     -1,116
Construction                            -1.6       -356
Leisure and Hospitality                 -1.6       -690
Financial Activities                    -1.6       -459
Education and Health Services           -1.6     -1,394
Trade, Transportation, and Utilities    -1.6     -2,566
Total                                    --      -8,065

                                        Industrial Mix

Sector                                 Percent    Jobs

Manufacturing                           -32.0    -14,366
Natural Resources and Mining              7.0         30
Public Administration                    10.0      2,257
Information                             -22.6     -2,010
Other Services                            6.5        972
Professional and Business Services        2.0      1,410
Construction                            -15.6     -3,428
Leisure and Hospitality                  12.8      5,456
Financial Activities                     -0.6       -175
Education and Health Services            23.6     20,348
Trade, Transportation, and Utilities     -4.1     -6,488
Total                                    --        4,006

                                       Competitive Share

Sector                                 Percent    Jobs

Manufacturing                            11.3      5,078
Natural Resources and Mining            -35.0       -149
Public Administration                    -4.7     -1,070
Information                             -14.3     -1,274
Other Services                          -15.4     -2,304
Professional and Business Services       -3.9     -2,667
Construction                            -13.9     -3,058
Leisure and Hospitality                  -7.6     -3,221
Financial Activities                    -12.6     -3,584
Education and Health Services            -4.4     -3,812
Trade, Transportation, and Utilities     -9.0    -14,266
Total                                    --      -30,327
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Author:Evans, Richard D.
Publication:Business Perspectives
Date:Jan 1, 2012
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