Self-Storage Outlook

Source:  "Public Storage Short Thesis: Supply Glut Coincides With Declining Demand Alpha," Seeking Alpha, August 2023." 

Although demand is softening from its highs, it is still not considered weak. Data from Cushman & Wakefield reveals that although self-storage transaction volume in Q3 2023 was down by 57% year-over-year, volume remained above its 12-month levels leading up to the pandemic.⁴² According to Inside Self-Storage, people continue to move to the Sunbelt region, stretching from Southern California to Florida, and this trend is expected to continue well into 2030.⁴³ Although we have observed significant transaction activity in Sunbelt markets for pockets like Austin, Houston, Dallas, Tampa, Orlando, Phoenix, and Las Vegas, we believe there are still some underserved pockets in the Sunbelt area that have older self-storage facilities and a lack of supply which could lead to requiring more investment in the next few years.

According to Inside Self-Storage, there are concerns of oversupply in certain markets such as Charlotte and Nashville, as well as pockets of Atlanta and Sunbelt markets that received considerable transaction activity in recent years.⁴⁴ Although there is a slowdown in construction pipelines, many self-storage facilities are being built without the demand to match due in part to a slowdown in housing development and fewer home sales. We expect a similar situation may occur in markets that were previously high growth for self-storage, which will likely put downward pressure on rents considering that self-storage needs are often tied to home relocations, among other factors, which is why we anticipate tepid rent growth overall in H1 2024. A recent analysis by Yardi Matrix shows that as of November 2023, the average asking rent per square foot was at $16.57, down by 4.2% year-over-year, with the rent growth decline mostly concentrated in previously high rent growth markets in the Sunbelt region.⁴⁵

With concerns of oversupply in some Sunbelt markets, we believe the first factor to analyze is location. We will generally consider markets with self-storage inventory below roughly 6 square feet per capita within the 1, 3, and 5-mile radius of the targeted site, which has been the standard national average for self-storage, according to Inside Self-Storage.⁴⁶ If the number of self-storage units exceeds demand, it may lead to declining rents and could negatively impact the NOI.

With the expectation of soft rent growth in the next few months for self-storage, we will be more sensitive to what type of inventory already exists within proximity of the prospective project. It is important to ask questions such as: Is the competition obsolete? Is it a new construction? What type of amenities exist in our competitive set? We are cautious when evaluating projects with significant competition in the surrounding areas. Instead, we will focus on finding deals in relatively untapped submarkets with aging self-storage facilities that can be transformed into those equipped with advanced climate control, automation, and security features.

Due to challenges in obtaining debt for development opportunities, we will mainly consider deals for existing facilities, especially if the acquisition yield allows for positive leverage. One challenge with development projects in today's competitive lending landscape is that construction loans for projects with longer stabilization timelines are often subject to tougher lending standards than projects with quicker stabilization timelines. For example, even though self-storage development generally requires less time and capital than other real estate asset classes, the lease-up period is typically longer - in our experience that is typically 36 months compared to around 18 months for industrial or multifamily projects. Additionally, current interest rates also make for higher overall debt service, with lenders typically requiring substantial reserves until stabilization. Therefore, we would consider a self-storage development project if the market is attractive enough for the project that is positioned to stabilize quicker than roughly 36 months (let’s say, under 24 months).

Despite oversupply concerns, we believe there is still demand for modern self-storage facilities, particularly in areas with large populations and urban infill locations that have seen a significant increase in the price of industrial land since the pandemic began. For example, Public Storage Inc. spent $2.2 billion in 2023 to purchase Simply Self Storage, whose portfolio is dominated by high-growth Sun Belt markets. We will consider deals with a strategy around building for underserved or growing populations and exiting as part of a portfolio, which can offer the potential of greater cap rate compression. Therefore, selecting the right sponsor to execute this exit strategy will be crucial. Additionally, with an outlook for softening market fundamentals, considering deals with experienced sponsors in the self-storage space is especially crucial.