A slowdown, not a full stop. That’s how Omaha’s commercial real estate professionals describe the impact of higher interest rates on sales, leasing and development activity in their market.
Omaha has long boasted a resilient commercial real estate sector, one that doesn’t experience the high peaks of some markets but also doesn’t see the low valleys that other cities suffer. And that is holding true today, even as the Federal Reserve Board continues to raise interest rates and inflation keeps slamming consumers.
The Federal Reserve raised its key interest rate by 0.25% in late July, increasing this benchmark rate to a target range of 5.25% to 5.5%. The board has been increasing this rate steadily for more than a year to fight persistent inflation.
The move marked the Fed’s 11th interest-rate hike in the last 17 months.
David Levy, partner with Omaha law firm Baird Holm, said that higher rates, along with the higher costs of construction, have slowed projects in the city and its suburbs from either starting or reaching fruition. What it hasn’t done is caused developers to scrap these projects completely.
“We are still seeing an active commercial real estate market here,” Levy said. “Deals are happening. People are interested in new projects. There is a positive outlook. The interest rate situation and construction costs are maybe slowing things down. But they are not causing projects to stop or not happen.”
Two commercial sectors here – industrial and multifamily – are performing especially well today, even with higher interest rates. Levy said that Omaha is seeing an increase in hotel and hospitality projects, too.
Technology companies are increasing their activity in the Omaha market, too, Levy said. Investment from start-ups and established tech companies is providing a boost to the local economy.
“Companies are looking for places that are affordable with skilled labor available,” Levy said. “More tech firms are looking at Omaha because we can offer that.”
Jay Noddle, president and chief executive officer of Omaha’s Noddle Companies, said that not only are higher interest rates slowing investment sales in the region, they are also impacing the value of commercial properties.
At the same time, there is now a lack of commercial financing in the market as banks and other lenders pull back during this period of economic uncertainty. That has caused developers to either change the start date of their projects or right-size them, perhaps reducing the number of new units they’ll build in a multifamily development or lowering the square footage they’ll bring to the market in a new mixed-use development.
Finding financing has become difficult today, Noddle said. And the type of financing that developers can land has changed. Terms are tightening and the required debt coverage ratios have increased. At the same time, the duration of loans has become shorter.
“And that’s just for the banks that are in a position comfortable enough to place new debt,” Noddle said. “There are several lenders in the country that have hit pause on new lending.”
That being said, the Omaha commercial real estate market remains resilient, Noddle said. And it’s in a good position to see increased sales and development activity once the Fed stops tweaking interest rates.
“This isn’t doomsday,” Noddle said. “It’s just an interesting time.”
The solid industrial market
Kevin Stratman, an industrial real estate specialist with Omaha’s Investors Realty, agreed that industrial leasing activity has remained strong, even with higher interest rates. There was a slight slowdown, though, during the summer in the new development of warehouses and manufacturing facilities because of those higher rates.
As Stratman says, those higher rates made new developments more challenging to pencil in. But in good news, those delayed developments are now starting to move forward.
“The tone has changed,” Stratman said. “We are going to see the next wave of construction starting now. We will see an increase in construction in the coming quarters.”
The higher rates haven’t slowed industrial leasing, Stratman said. And activity at existing, slightly older warehouse and industrial spaces have been particularly strong.
Part of this is an indirect result of higher construction costs. As it becomes more expensive to build industrial space, owners are charging higher rents to help make up for those higher costs. At the same time, while rents have been increasing at existing industrial properties, these rents haven’t risen as much as they have in new construction.
Tenants that are interested in saving money, then, are looking at renting space or renewing their leases in more affordable existing space.
“Tenants are looking at the economics of dealing with a little functional obsolescence for a lower lease rate,” Stratman said.
Mike Homa, president of R&R Realty’s Nebraska division, said that higher rates have put a pause on some new projects in the Omaha market. But like others working in this city, Homa said that the slowdown from rates isn’t as significant here as it is in other markets.
“We just haven’t had the kind of slowdown that other markets have seen,” Homa said. “I define what we’re seeing as a pause in new development, a rethinking of projects. Developers are looking harder at value engineering to try to offset capital costs with savings on how buildings are designed and structured. But I can’t say that I’ve heard of too many projects that have pulled the plug.”
Higher interest rates are having an impact on property values in Omaha, too. But again, Homa said, the impact hasn’t been as severe as it’s been in other markets, where some buildings might sell for as little as 40% of the prices they fetched just five to seven years ago.
Homa said that in the Omaha market, prices on commercial properties might instead fall by 10% to 15%.
“It’s spotty,” Homa said. “High-quality, well-located properties are still commanding good valuations. Interest rates have not affected those properties. The more secondary locations and older Class-B and Class-C product have seen the biggest impact from interest rates.”
And when it comes to leasing activity? Homa agrees that interest rates haven’t slowed leasing volume in the Omaha market.
“By nature, the Omaha business community leans more toward the conservative side of how we approach real estate,” Homa said. “We don’t have the big run-ups in value. At the same time, we don’t see the big declines in values like we might see in some of the other markets. We continue to have low unemployment and a good entrepreneurial spirit that is helping to create new markets in Omaha.”
Like other brokers working the Omaha market, Stratman says that sales and construction activity will pick up even more once the Fed puts a halt to its interest-rate hikes.
“Everyone is trying to figure out how to make the numbers work with higher interest rates. They’re waiting on construction costs to stabilize a bit, too,” Stratman said. “We are now starting to see transactions at the higher end of the rent spectrum. That is giving developers more confidence to pursue projects. They see that the demand for industrial space is still there.”
As Stratman says, it’s a combination of factors that is breathing life slowly, but steadily, back into Omaha’s industrial market.
“It’s not just one thing,” he said. “The construction costs are a little more stable. The tenant demand is still there. Interest rates are high but we now have more of an understanding of where they are going to be. It’s a combination of all those factors that is providing a boost to the industrial sector.”
Challenges still facing office sector
Levy is even seeing positive signs in the office market in and around Omaha. Employees are returning to the office, he said, though not yet at pre-pandemic levels.
Providing a boost to Omaha’s office sector? Mutual of Omaha is building a new skyscraper at 1614 Dodge St. in the city’s downtown with an expected completion date in 2026. Mutual of Omaha’s project shows a commitment to the Omaha office sector that is impressive today.
At the same time, Omaha is in the early to middle stages of developing an urban streetcar project that should be ready to serve riders in 2026. This project, too, will provide a boost to downtown Omaha and the urban office market, Levy said.
“The streetcar project is a great public investment in the infrastructure of downtown and the urban core,” Levy said. “It will connect the different parts of our urban core and allow for the better use of surface parking lots. All those lots will become less necessary as the streetcar connects areas together. It also reduces the reliance on cars downtown.”
The Omaha Streetcar Authority, a local government entity, is now shepherding the streetcar project into reality. Today, the authority is digging into the nuts and bolts of the project’s engineering and construction schedule. The financial structures to support the project are already in place.
“As people learn more about how the streetcar will work and what impact it can have on downtown Omaha, the more support for it continues to grow,” Levy said. “The streetcar is happening in Omaha.”
Homa said that the office market in Omaha is still working through the challenges brought by the COVID pandemic. Like other markets across the country, Omaha’s office sector is seeing higher vacancy rates and a workforce that remains resistant to returning to the office on a full-time basis.
“The CEOs want people back in the office. That’s a very prevailing mindset. But you have to balance that with how employees today want to work,” Homa said. “Obviously, the balance lies in that hybrid model. With the hybrid model, you still need office space. That’s the approach that business leaders in Omaha have taken. They are still finding value in having people together so that they can interact and collaborate. You still need office space to make that happen.”
Of course, how companies want their employees back to the office has changed since the start of the pandemic. Before, workers went to the office five days a week. Today, that has changed to two or three days.
At the same time, the flight to quality in the Omaha office market is a real phenomenon.
“For our office buildings, the first question potential tenants ask is ‘What amenities do you have?'” Homa said. “That has become so important. People are thinking not just about interior amenities, but exterior, too. They want outside eating areas, walking paths, locations for food trucks. And it’s not enough to have a rooftop patio. Tenants want to know what amenities come with the rooftop areas. Are there firepits up there? Is the space Wi-Fi-enabled? It’s the next evolution of amenities.”
The investment in Omaha’s downtown core is important. It’s also been fairly constant during the last several years.
Developers have brought a steady stream of new multifamily units to Omaha’s downtown and surrounding neighborhoods.
In addition to Mutual of Omaha’s commitment to downtown, a new development by Omaha-based developer Noddle Companies slated for the north section of the city’s urban core is also bringing new excitement.
Construction company Kiewit provided the impetus for the Builder’s District when it moved its headquarters to 15th and Mike Fahey streets. Noddle’s goal here is to populate the area surrounding this building with multifamily units, office space, retail and an urban park.
The Builder’s District will cover about six city blocks and will include a 130,000-square-foot office building made primarily of timber.
“I think that over the next decade as cities respond to the post-pandemic world, downtowns will become more residential than they already are,” Levy said. “Omaha’s downtown has seen a lot of residential growth over the last decade or so. That will continue. The Omaha Chamber of Commerce has released a core strategic plan on what the urban core can be. No question that it will include a healthy component of residential growth.”
Another boost to downtown Omaha has come from the city’s investment in the Gene Leahy Mall, a sprawling public park along the banks of the Missouri River. Levy said that the park has brought even bigger crowds to downtown Omaha.
The Kiewit Luminarium, a new science building, has also opened in downtown Omaha at the Lewis & Clark Landing area. This, too, has provided another reason for people to flock to the city’s downtown.
“It is really something to drive around downtown on a sunny Saturday or Sunday and see the number of people spending time in downtown Omaha,” Levy said. “It is amazing. I never saw that before outside of a big event like the College World Series. Families and people are walking about. People are eating and drinking in the sights and sounds of the city. It’s brand new.”
Noddle said that leasing activity remains robust throughout the Omaha market. On the office side, though, many tenants are leasing a smaller amount of square footage and are skittish about signing longer-term leases, Noddle said, with some asking for early termination rights.
Development activity is slower, not only because of higher interest rates but because of higher construction costs, too, Noddle said.
That combination is making it more challenging — though not impossible — to get new projects out of the ground.
“We are just starting to see signs of construction costs leveling off a bit,” Noddle said. “But it’s become so darn expensive to build anything. Take that and combine it with higher interest rates and lenders with tighter criteria, and you need to be careful before starting a new project. That doesn’t mean there isn’t robust activity out there, but you have to be careful. Experience makes a big difference when you are considering a new project today. There is a ton of opportunity out there, but there are some bumps in the road.”
Noddle points to the multifamily market. There has been a significant slowdown in apartment development groundbreakings, he said. That isn’t because the demand for new apartment units isn’t there. It’s because the costs of building new apartment developments have risen.
Fortunately, Noddle Companies has the experience to weather this challenging time, Noddle says.
“We’ve been doing this for a long time, over five decades for the company,” Noddle said. “This isn’t our first major financial event. We’ve seen this before. At the end of the day, these financial challenges require the same sort of skills and execution, and we have the experience necessary to work through them.”
Retail resiliency
Trey MacKnight, associate with Omaha’s The Lund Company, specializes in the retail sector. He says that Omaha’s retailers have shown that they, too, are resilient.
MacKnight said that retail sales are slower today, thanks largely to higher interest rates. But leasing activity remains strong.
The formula for retailers’ resilience here? MacKnight says that the savviest of retailers have embraced online sales, enhanced delivery options and curbside pick-up. At the same time, they’ve retained a focus on their physical stores. This combination — the famed omnichannel approach — has provided retailers with several ways to persuade consumers to spend their money.
“A lot of people are thinking that the ecommerce world and digital showrooms are what have been taking over retail. They look at that as the big trend,” MacKnight said. “But what I see is that people want to touch and feel products on the retail side. They want that physical space.”
At the same time, experiential retail remains hot. Consumers today are interested in high-end bowling alleys, indoor miniature golf/bar combinations and, of course, pickleball-themed eateries and bars.
MacKnight said that at least three pickleball concepts have committed to coming to the Omaha market or are actively looking at the market today. And these aren’t small users. MacKnight said each user is looking for 30,000 to 40,000 square feet of space.
But while leasing activity remains strong, sales have slowed. What can change this? MacKnight said that the sellers of retail real estate need to adjust their expectations in line with today’s economic conditions.
“Sellers want a higher number when they sell, but buyers need a lower number,” MacKnight said. “That has been one of the causes of the lull we are seeing in sales.”
MacKnight said that as interest rates continue to rise, sellers are slowly adapting. Those sellers who don’t have to sell, though, are choosing to hold onto their properties and wait for interest rates to either fall or at least stabilize.
And those who have to sell? They need to be realistic.
“If you have to sell you need to look in the mirror and realize that these are the times right now,” MacKnight said. “This is what the market is telling me this property is worth. Those owners are selling. But those that don’t have to sell won’t sell right now.”
Even with the slowdown in sales, though, many of Omaha’s retailers are thriving today. In part, this is because of the habits that retailers embraced during the height of the COVID pandemic. As retailers enhanced their online ordering, delivery and pick-up options, consumers responded, ordering more products.
MacKnight points to some of the restaurants he has placed. In 2019, customers would be fighting for seats inside these restaurants. Today, customers can walk in and pick up their boxed orders from a rack at the front of the restaurant. And more often, MacKnight says, that’s what he sees when he steps inside these establishments: rows and rows of to-go orders.
“These restaurants now have two forms of income that are bringing in the revenue,” he said. “They have online ordering and pick-up while still offering dine-in. These new habits that people learned during COVID times have provided such a boost to their businesses. Kudos to the indivduals who brought new options to their customers.”
Sara Hanke, an associate broker with Omaha’s The Lerner Company, said that Omaha’s retail sector has been resilient not only in the face of higher interest rates, but during the worst of the COVID pandemic, too.
“Our retailers didn’t really slow down during COVID,” Hanke said. “They shifted, though, to meet the needs of customers. There was a greater need for outdoor space for drive-throughs. A lot of retailers have shrunk the footprints of their stores as they focus more on delivery and pick-up. It’s not that retailers slowed down during the pandemic, it’s more that they right-sized their offerings.”
And, yes, some major retailers have declared bankruptcy recently. But while some of those bankruptcies were spurred by COVID, many of them were inevitable anyway. Even without the pandemic, many legacy retailers were going to fall into bankruptcy as shopping trends changed around them.
Hanke said that the influx of big-box space into the market also comes with a benefit: It provides new space for those retailers looking to break into or add to their existing presence in the Omaha market.
“There is some hope here. The lack of retail inventory is high and there is a huge demand for larger retail space,” Hanke said. “Those spaces left behind by big retailers will get gobbled up.”
The lack of space is a real issue in Omaha today, Hanke said. Retailers want spaces that offer high visibility at busy intersections. The quick-service restaurants are also looking for spaces that have enough room for drive-through lanes, often multiple lanes.
The problem is, there simply aren’t enough of these prime spaces for every retailer that wants one, Hanke said.
“The doomsday narrative was always that retail is dead and the big boxes were going to be empty,” Hanke said. “Well, other retailers are filling those spaces. Those spaces might get divided or entertainment or soft goods users might fill them. But they are getting filled, and we are now at the point where there is not a lot out there for retailers looking to relocate or right-size their locations.”
MacKnight, like other CRE professionals working this market, is excited about the new development activity that is still taking place in Omaha.
He’s especially pleased with the focus that retailers have on Omaha’s downtown core. He said that projects such as the revitalization of the Gene Leahy Mall have brought activity back to the city’s downtown. This has benefitted not just the center of downtown, but its surrounding neighborhoods, too, including the areas around Creighton University and Charles Scwab Ballpark.
“We are seeing lots of great retail moving to that area,” MacKnight said. “We are seeing national groups and local individuals that are expanding and trying new concepts. The whole downtown and its surrounding areas have become a hub for innovation.”
Hanke agreed that entertainment-based retail is particularly strong in Omaha today. Just look at pickleball. The sport, a combination of racquetball and tennis, is growing in popularity across the country. Not surprisingly, several companies are embracing the trend and opening entertainment centers that include pickleball courts, bars and restaurants.
This includes Smash Park, which is planning a new location in Omaha. Hanke said that indoor miniature golf and driving range facilities are also popular, with many of the entrepreneurs behind these concepts targeting the Omaha market for new facilities.
Discount retailers are thriving in today’s economy, too, Hanke said. Franchises such as Five Below and Dollar General are opening new locations across the area.
“In the next year, we will see lot of new concepts come to our market,” Hanke said. “We constantly get new restaurants, but we’ll get other new concepts, too. Just look at downtown. We are getting new entertainment centers in our downtown, giving us the entertainment hubs that the downtown area has been lacking.”
Downtown Omaha, of course, is reliant partly on a rebound in the office sector. That is happening, but it is happening slowly. Hanke, though, says that people are eager to get out and visit restaurants, shops and entertainment centers. And when more people are back in the office, that will provide another boost to downtown’s restaurants, shops and retailers, too.
“There has been a real resurgence in social activity after COVID,” Hanke said. “Then there’s the boost that the Gene Leahy Mall has provided. You are seeing more people hanging out and going out to eat in our downtown. There’s a real sense of community downtown today.”
And the future of Omaha? The professionals doing business here predict that commercial real estate activity will only increase again once the Fed stops increasing interest rates.
“The next time that a Fed meeting goes by without them raising the rate, that will spur activity,” Levy said. “If a couple of meetings go by without any further increase, then activity will really start to pick up. When you talk to people in Omaha and real estate, they are positive. Omaha and cities like it are well-positioned for the future. Yes, this is an uncertain time. But Omaha is poised to do well.”
Stratman says that Omaha’s conservative nature has helped it avoid the ups and downs that markets on the coasts often see.
Omaha didn’t see many large spec industrial developments before 2015 or so, Stratman said. That was when national developers finally began targeting the market. But before then, developers that were adding spec industrial space mostly concentrated on bringing 70,000- or 80,000-square-foot warehouses to the market.
Today, developers are finally bringing those larger spec projects to the area. And they’ve discovered that the demand for them is high.
“We have proven that the demand is there for bigger projects,” Stratman said. “Land is hard to find in Omaha. Finding sites is difficult. We now have more demand for sites than there are sites. We have inadvertently kept the pace of construction on the lower end. That has helped us avoid overbuilding. If every developer that was interested in delivering spec sites had been able to, we would have a heck of a different situation than we have today. We didn’t have that huge swing in construction because of the lack of sites. That has worked in our favor today.”
“If you have the industrial space available, it’s not going to last long on the market,” Homa said. “The biggest challenge in Omaha’s market is finding more flex and smaller warehouse space in that 5,000-square-foot to 20,000-square-foot range. There is still a lot of pent-up demand and not a lot of supply in that area.”
Tenants looking for larger distribution space will find it easier to located an appropriate facility, Homa said.
Homa said that the strong demand for industrial space in Omaha isn’t surprising. The city features easy access to major highway Interstate-80 and boasts strong rail service. The market also has a strong workforce and an affordable cost of living.
“Omaha is slowly starting to be seen as a bigger metro area,” Homa said. “We are approaching 1 million people living in our metro. That is one of those benchmarks that make a difference to investors, new retailers and others. I really see the Omaha market remaining strong.”