A couple of weeks ago, I had the pleasure of traveling to Alaska for a small CWS planning meeting on a private boat. To enter Alaska without being quarantined, one had to prove he or she tested negative for COVID, which fortunately I did. It was beautiful, and it was the first time I had traveled since returning from overseas in March, and it was also the first time I had been to Alaska. Here is a picture of the boat. We were able to take a helicopter ride over the glacier, and it is awe-inspiring in terms of how vast and beautiful it is.
I was reminded of how much I missed connecting with my coworkers and how great it was to see each other again and to be able to enjoy such a beautiful setting, carry out activities as a group, do a lot of laughing, and discuss our thoughts about the current environment and the future.
The situation we’re in today lends itself to thinking about the famous Donald Rumsfeld soliloquy about known knowns and known unknowns and unknown unknowns. This is because there are quite a few known unknowns since the world has been turned upside down by the impact of COVID and the resulting change in consumer and business behavior that has been either imposed by government regulations or self-imposed due to health concerns.
With that being said, there are some initial feelings and beliefs based on what we think we know so far that led us to start the meeting pleased that we are invested in apartments in the markets that we’re in and with the customer base that we have. Rather than reinvent the wheel, I thought I would leverage off something presented by Bluerock Residential in an August 20, 2020 presentation that conveyed how they believed their portfolio was well-positioned to be insulated from and possibly benefit from changing consumer tastes and behavior as a result of COVID. Here is the critical slide.
This also happens to be very representative of CWS’s portfolio. What we also have that most owners don’t is a hefty concentration of variable rate debt, which has materially lowered our debt service in 2020. This is another shock absorber for us.
From an economic standpoint, the people who are high earners have recovered relatively well, and those who are not have borne the brunt of much of the financial carnage. Those with money are not spending it because they are fearful to frequent many of their usual service providers, or they have not been able to because they have been closed. The lower earners, however, recovered their spending more rapidly thanks to the aggressive stimulus checks and because much of their spending is on necessities versus discretionary and luxury items. One can see from the following charts from Bloomberg Businessweek what has happened with spending, small business revenue, and employment between the highest earners and lowest earners.
Small businesses in the highest-earning areas have been hit harder than those in the lowest income areas. At the same time, employment among low-income people dropped far more and is still significantly below pre-pandemic levels. High-income earners have not been nearly as affected. The fact that spending has held up in the face of such terrible employment outcomes for the lowest income people shows the importance of government support in propping up spending. This makes the most important known unknown being what happens if there is no new stimulus package passed? It can’t be suitable for consumption and apartment owners with lower-income residents. This article from Bloomberg shows how economists are now dropping their growth forecasts based on the reduced stimulus.
What will happen if the election results in the Democrats winning the presidency and controlling the Senate and House? Will this create more government intervention in housing, and will tax policy change that may result in less demand from investors for apartments due to less favorable treatment or more incentives for people to buy homes?
Can the stock market hold up, or will we have a more sustained bear market that will further impact the economy negatively?
State and local finances have been decimated. Will the federal government bail them out so they don’t have to punitively raise taxes and thereby expedite the departure of high-income individuals and corporations from low to negative growth, high taxation, cities, and states to more growth-oriented, lower tax, and less regulated environments? We already see it in New York, New Jersey, and Connecticut, as several very wealthy people move to Florida. California is clearly at risk for this as well.
Will people continue to flock to the suburbs and away from urban areas, or is this more of a temporary reaction to lower mortgage rates and seeing no reason to be in high-cost areas where one cannot take advantage of and enjoy the cultural, social, and entertainment amenities and interactions due to the inability to congregate and work in offices? Why pay such high rents when you’re not getting the benefits in return? Will people flock back to these previously dynamic urban areas when the pandemic is behind us, or has the contrast that people have now experienced with more space, less cost, and less crime and social tensions convince people that they were valuing the wrong things? I think this is a strong potential for those in their late 20s and older, so the real question is will younger people return to the urban environment to be with others and have many more social opportunities and take advantage of the other benefits cities have to offer? This also assumes that many businesses can and are inclined to reopen, and there is a backlog of those who want to if others can’t or choose not to.
Will office space be radically reconfigured in terms of how much space is needed and where corporations choose to locate or expand? Will they use more of a hotel, shared space model as more people work from home but have a place to congregate on an as-needed basis to collaborate in person? I am a big believer that it is tough to collaborate and build those strong bonds that come from informal interactions via Zoom unless you already have a team that has been in place and gelled for a long time that has a lot of trust and understanding of one another as well as open communication. It is much more challenging to integrate new people, train them, and have them be able to absorb the culture remotely. This can only be effectively and sustainably done in person as we are still social beings that require and crave in-person interaction. As a result, I don’t think that remote working will be a permanent thing in terms of an overwhelmingly large percentage of the workforce doing it. Still, it will be a significant enough shift that undoubtedly will impact the consumption of office space and where people live. In some ways, the office environment is being outsourced to the home environment, affecting the office economy in terms of restaurants and support services for that economy. It’s also creating a demand for more living space.
The shift to remote work happened overnight and forced owners and managers to give up their long-held notions that remote work should not be encouraged because it can’t be controlled and measured, and people will take advantage of it and slack off. They had no choice but to accept it and adopt it. Most have been pleasantly surprised by the results and that most people can be trusted, and we can still carry out our business and be productive. As a result, they are going to be much more open-minded as employees make requests to work remotely, and they will have to develop strategies and policies to keep that flexibility while still being able to require the collaboration that is necessary for innovation, creativity, and breakthroughs.
So there’s a lot to think about in terms of where people end up locating as well as other social and economic impacts. Regardless, we still believe that knowledge-based workers are critical for the growth of the economy because it’s through productivity gains that our standard of living and competitiveness will improve. These gains can only come through breakthrough, game-changing ideas that can be put into action that are spawned through great ingenuity and collaboration. The people most well-positioned to generate these ideas and implement them are well educated, talented, energetic, creative, curious, and focused. They feed off others with those same attributes in close working environments with a lot of room for informality and serendipity bonded together by a great culture. This can’t happen 100% remotely on a sustainable basis, but it can on a much higher percentage than was taking place pre-COVID. I think people have appreciated some of the balance that they’ve been able to experience in their life from working remotely, and doing so allows them to shift the balance from overwhelmingly living to work to more working to live.
There are many more questions than answers, but it’s essential to start with what questions you want to have answered as this can help focus your research and thinking in the most productive directions. Hopefully, we’ll gain further clarity and catch the big fish of breakthrough insights that allow us to capitalize on opportunities and avoid uncompensated risk.
While I wish I could say that I caught this, I can’t, as our guide caught it before we got on his boat.
Here are the real impressive catches from our boat!
Dani rocked battling this salmon. It was awe-inspiring how she never wavered and won the battle.
This was a titanic battle that made me want to re-read Old Man and the Sea. Greg gave it everything he had, and through grit, perseverance, and tremendous fortitude, he brought this big halibut home.