While researching self-storage facilities as an investment, you may have come across the idea that they tend to show resistance to recessions and economic slowdowns when compared with other commercial real estate investments.
Let’s take a look at what makes self-storage an attractive option for real estate investors who may be searching for ways to ensure that their retirement portfolio can withstand, or even thrive during an economic contraction.
Clouds on the horizon
As of late 2019, the United States is close to entering into the 11th year of an economic expansion, the longest bull market in history. This sustained boom has left many investors wondering: when is the music going to stop? There are a few reasons why some experts believe a recession is due:
The appearance of the inverted yield curve
In mid-August of this year, financial analysts and investors began sounding recession bell alarms when the inverted yield curve appeared. This scenario describes when interest rates on short-term bonds are higher than rates for long-term bonds. It outlines a worrying trend: that investors feel safer depositing capital into long-term investments, rather than higher-yielding, riskier short-term investments.
In healthier economies, bondholders will not invest in longer-term bonds unless they receive a higher yield than short-term bonds. This is due to the fact that long-term bonds require that the invested capital be locked into that investment for a longer period of time, and investors expect to receive added returns for the additional risk that time represents. When the yields for these bonds invert it is a warning signal that bondholders and investors do not have confidence in the short-term prospects of the market.
Softer commodity prices
During times of vigorous economic activity, demand for commodities stays high, as firms need to buy and sell said commodities to create products for consumers. When the prices of commodities go down, it is a sign that global consumption is weakening, and is another sign that economic prospects may not be so hot in the near future.
Manufacturing is contracting
In August, the ISM US manufacturing Purchasing Managers’ Index dropped to 49.1%- the lowest seen since early 2016. Historically, when the Index falls below 50%, the manufacturing sector is seen to be in a recession.
These and many other economic indicators signify that we may be seeing the end of a long-bull run and that our economy may be going into recession.
What makes self-storage facilities recession resilient?
Self-storage stands apart from many other sectors in the commercial real estate space. During a recession, many property types, like shopping, retail, and restaurant properties tend to lose tenants, as well as suffer from reduced cash flow due to lower rents. Self-storage facilities are not nearly as affected by a recession due to a few factors.
1. Storage needs increase during a recession
One of the hallmarks of a recession is the movement of consumers into less spacious accommodations. As wages stagnate, and the employment picture gets grimmer, homeowners and renters tend to downgrade the size of their homes, but they still need a place to store their stuff. Self-storage facilities benefit from this demand and can see increased rental rates during a downturn.
2. Less reliance on individual tenants
Self-storage facilities tend to generate their income from a larger pool of tenants, compared with all but the largest commercial real estate investments in multifamily, retail, restaurants, etc. Heavy reliance on a single or a limited pool of tenants exposes investors to risk should those tenants default during a recession. Self-storage facilities tend to have many more tenants, with less of a financial contribution to the bottom line per tenant. This provides a diversification effect that protects self-storage investors from dramatic drops in tenancies at their properties.
3. Lowered maintenance/operations costs
When compared to other forms of commercial real estate, self-storage facilities have significantly lowered operations and maintenance costs. For example, a multifamily building may require leasing staff, a property manager, on-site maintenance, and a whole host of other regular costs associated with running the property. Lowered operating costs allow self-storage owners to keep profit margins high, while reducing the capital expenditures necessary to keep the business running- this can be incredibly helpful during recessions, when lending standards are tighter, and capital is harder to access.
Identifying and investing in the right retirement assets is tough during the best of times. When dark economic clouds loom on the horizon, the anxiety, unease, and fear associated with finding a place to put your money grows exponentially- but countercyclical assets can help ease these worries.
Self-storage facilities possess the ability to survive and even thrive during recessions due to the increased need for their services during hard economic times, low long-term operating costs, and diverse tenant base.
Ari Rastegar is CEO of Rastegar Property, a vertically integrated real estate company with a distinct focus on value-oriented real estate.