CRE Can Only Do So Much To Prepare For, Recover From Hurricanes
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How many hurricanes does it take for a beachfront property to lose its allure?
The commercial real estate industry is more conscious than ever of the effects of major storms. But whatever improvements can be made to the built environment might not be enough to counteract the effects of ongoing climate and demographic changes.
Hurricanes cause damage to buildings with both strong winds and flooding, the latter of which can come in multiple forms. Storm surges, when the force of a storm brings ocean water up onto land, are the most immediately devastating as the main source of hurricane-caused fatalities, according to the National Hurricane Center. But those tend to only last hours, while rainfall can cause flooding that lasts for up to weeks longer if rivers overflow their banks.
As the ocean gets warmer due to greenhouse gas emissions, hurricanes may dump more rain in the future, according to a recent NHC study — more ocean water will turn to vapor and come down as rain over land. Though the frequency of hurricanes hasn't been projected to increase, the most severe ones may increase in intensity due to similar temperature factors.
“This has become, particularly in the Southeast, much more front of mind, because of the flooding we’ve had and the hurricanes we’ve had,” The Cooper Cos. principal George Caruso, a 40-year veteran of the property management industry, told Bisnow. “Most of the flooding we’ve had [in the region] has been a byproduct of hurricanes, even without it being a severe hurricane.”
The State Of Storm Readiness
The parts of the U.S. that border the Gulf of Mexico and the Atlantic Ocean have been battered by hurricanes enough in recent years to be painfully aware of the human and economic cost they wreak, but not every city and state has responded with the same urgency in their policymaking.
In the wake of Hurricane Andrew causing $26B in damages in 1992, Florida enacted statewide building codes that forced new construction to be prepared for 100 mph winds and for flooding conditions in coastal areas. Houston had no such protections when the biblical rainfall of Hurricane Harvey hit in 2017, causing $125B in damages. Flood plain mandates were passed seven months later.
“A lot of times, the codes aren’t really caught up to reality because they can be sort of reactive,” Perkins and Will Associate Principal Julie Frazier said. “There’s a lot of red tape in making changes.”
Developers, engineers and architects often build to standards higher than the minimum required by law in order to better protect their assets, as Perkins and Will does by building to the 500-year flood plain in coastal areas when local requirements virtually never go beyond the 100-year flood plain, Frazier said.
But a municipality’s readiness for a natural disaster is still a major factor in the long-term health of any one building — and the investment behind it.
“An area that’s protected by levees would make us ask, ‘How frequently are the levees inspected, what’s the standard that cities apply and how ready are the cities to repair them?’” Heitman Senior Vice President Laura Craft said. “If a property wasn’t protected [by a city], we wouldn’t feel comfortable and we would be unlikely to invest.”
Cities are uniquely vulnerable to flash flooding because so much of the ground is paved, preventing grass and dirt from absorbing water. Some cities and private property owners have installed rainwater-catching grass basins, but so far not at a level that would materially reduce flood risk citywide, according to Frazier and Perkins and Will Sustainable Building Advisor Megan Recher.
How Hurricanes Hit Commercial Buildings
Much of the news coverage during and immediately after hurricane strikes focuses on single-family homes and residential neighborhoods, but commercial real estate has somewhat different vulnerabilities. For instance, winds reach higher speeds at higher altitudes, putting more strain on taller buildings.
“Wind does things like peel roofs, glass or siding off,” Caruso said. “When you have urban areas and high winds, the glass damage you sustain from debris hurtling around is significant.”
Storm surge flooding, especially if ocean waves start coming onshore, can rip through structures just like wind. Whether from storm surges or rainfall, flooding starts a race against time for every building, no matter how new. The longer a structure remains wet, the more mold will set in. The more mold a building has, the more costly and extensive the removal process, Caruso said.
The long-term effects of physical damage to a building end up on the bottom line for building owners, which is why most of them take solace in having flood insurance. But that is not as much of a certainty as it has been in the recent past.
Owners of homes and property anywhere in the country with an established flood risk rely on the National Flood Insurance Program, but conflicts in Congress over the program have left the program to be reauthorized in four-month increments. Two bills passed the House of Representatives that would reauthorize the NFIP for five years, but they have yet to pass the Senate.
As it stands now, the NFIP will either have to be reauthorized or lapse in September. Most commercial property owners supplement NFIP insurance with private coverage, but since insurance companies adjust premiums based on their own payouts and perceived risks, the cost can spike quickly.
“While so many institutional players say they have insurance to cover their risk, insurance is a one-year policy and property investments are for much longer than one year,” Craft said. “So for investors to rely on insurance to identify risk in their portfolio is inadequate. Investment managers have to be taking that on.”
When insurance companies pay the sorts of damages that hurricanes incur, they rely on reinsurance to cover their own losses, and the reinsurance industry’s payouts may hit their yearly cap as early as October, Caruso said. Premiums may rise as much as 30% for those that need to renew their insurance after the cap is reached.
After a hurricane hits, rising premiums can add insult to injury for landlords. A building Caruso's firm manages in Puerto Rico saw its premiums jump 300% after Hurricane Maria.
“It will completely wipe out profits for the next few years, because it was so badly damaged,” Caruso said.
Standing Up To A Storm
Construction technology has reached the point where if money was no object, even a skyscraper right on the beach could be built to survive a major hurricane relatively intact, Frazier said. Though such a building would have lower insurance premiums, it still might not be feasible in terms of cost today.
Newer commercial buildings in coastal areas are now often built with “blow-out” first (and sometimes second) floors, which give way more easily but in such a way that keeps the main structure intact, but most cities still have a sizable inventory of buildings constructed before hurricane resilience standards were raised.
Developers rarely place crucial backup generators and electrical systems below ground and have multiple redundancies in place to keep the building functional for residents, Frazier and Recher said. Some larger hotels have inner conference rooms with reinforced walls and without windows to double as shelters in case of high winds.
Even for older buildings, reinforcing the exterior to survive high winds — known as "hardening" — is a feasible step to take. But every bit as important as the strength of a building is how prepared its management is to react to a disaster, Caruso said.
“The one that causes me to sleep the least at night is getting the building back up and online and getting my residents or tenants, depending on whether it’s office and residential, back in the building,” Caruso said. “We can insure for loss of rents, but you don’t want to be seen as a less responsive owner."
Caruso has emergency contractors on speed dial for when hurricanes hit, so they can go in and start removing mold and fixing any damaged systems. With the current state of the construction industry, labor is predictably scarce, so The Cooper Cos. flies in labor from other areas to compensate.
“The biggest issue, especially when the storm has a wide path, is competent contractors," Caruso said. "You hear all the horror stories about shady contractors with single-family homes, and we’re more careful than that in commercial, but there are still only so many.”
The bar for competence is even higher for hurricane repair than in construction, whether because of older properties built with hazardous materials or newer properties with advanced technology, according to Caruso.
Heading In The Wrong Direction
To be safe from hurricanes, there is no substitute for living and building farther away from at-risk coastal areas. But demographic trends suggest that the opposite is happening, and where people move, development follows.
Miami remains a hotbed for development even as hurricane experts call it among the most vulnerable cities to storm surge. Kushner Cos. is soon to break ground on a $550M high-rise apartment building just off Biscayne Bay in the neighborhood of Edgewater, which is among the most dangerous places in Miami to be for a hurricane.
"Anywhere that’s on a bay or inlet, where you can funnel up water into a more enclosed or narrower area, will be very sensitive to storm surges,” the NHC's Brennan said.
For investors like Heitman that want to place institutional capital in long-term hold situations, environmental factors are more important than ever before. Though Heitman has not yet walked away from any investment specifically due to climate risk, Craft said, it has contributed to the company not pursuing at least one investment deal.
"We felt like at some point, the property would be underwater, and had to figure out when it would be not valuable," Craft said. "To get it ready, it would have required a complete rebuild of infrastructure in the area.”
If current trends continue, Craft would not rule out Heitman crossing a city off its map of investment targets entirely due to hurricane and flooding concerns. Yet the majority of potential investors have yet to make any changes to their strategies.
"NFIP premiums have been increasing by an average of 7-8% per year over the last five years," National Association of Realtors Senior Policy Representative Austin Perez said. "Theoretically, this should factor into sales prices, but ... some studies show that values fall right after flood events and then recover over time; this should not be happening if flood rates are fully being accounted for in closing table negotiations."
Rising insurance premiums and construction costs will prevent office and multifamily landlords from having much margin to absorb departures in the immediate aftermath of a hurricane, according to Caruso. A bad enough storm could reverse population growth for a city like Hurricane Katrina did for New Orleans, which has never recovered from the diaspora caused by the 2005 storm, Craft said.
Eventually, Caruso said, more cities will likely step in and ban construction in certain zones, like Federal Emergency Management Agency has done with refusing to insure certain buildings for NFIP if located within high-risk areas. A Louisiana town has already relocated to higher ground, becoming one of the country's first climate refugees.
"I think that [construction] will be moderated to some extent by city and county planning agencies," Caruso said. "They’ll think, ‘We see these buildings getting blown up every three or four years. We can’t keep doing this.’”