Fairfield Inn & Suites by Marriott in San Diego | Courtesy a representative of RAR Hospitality

A Look at the SoCal Hotel Investment Market

Carrie Rossenfeld Features

In a recent “Hospitality Innsights” newsletter written by RAR Hospitality’s CEO and president Robert Rauch, the hotelier predicted a soft economic landing in 2019 and no recession, but the hotel market still faces challenges.

According to a representative of RAR Hospitality, Rauch says that despite the record occupancy levels, average daily rate (ADR) growth continues to challenge hoteliers. Factors such as increased supply, low inflation, the sharing economy, and rate transparency make it more difficult to raise rates. Other challenges include the lack of buying opportunities available as sellers are not motivated to sell.

Robert Rauch | Courtesy a representative of RAR Hospitality

Rauch also says, according to JLL, the top five cities that hotel investors are interested in investing in over the next two years are Washington, D.C.; Boston; Tampa; Los Angeles; and Portland, Oregon. And, he says, there are several markets where hotel supply growth is high — New York, Orlando, Dallas, Nashville and Denver have seen significant growth in new supply.

Rauch also says travel spending is forecasted to advance another 7.1 percent in 2018 and will expand to $1.7 trillion by 2022, which bodes well for the hotel market.

Another positive for the hotel market is that research provided by Crittenden in November 2018 shows that lenders have deep pockets for hotels this year, with projected origination volume and preferences for 2019 in the hotel sector hitting impressive figures.

According to Crittenden, Rockbridge will originate $750 million to $1 billion in hotels this year, including between $12 million and $100 million-plus for all hotels, up to 90 percent leverage, fixed and floating rates, three- to 10-year terms, non-recourse available, in the top 100 markets with high barriers to entry and multiple demand generators. Similarly, the firm reports Avana Capital will originate $276 million for hotels this year, funding $223 million, with between $2 million and $50 million in construction and perm loans for select-service, full-service, and extended-stay hotels of mid- to upper-scale quality. It also says Money360 will originate $150 million this year, funding $100 million, with between $5 million and $15 million in loans for flagged properties in core and secondary markets with experienced operators; and it says Romspen will originate $100 million in hotel volume in 2019, funding $75 million, with $8 million-plus for flagged and boutique hotels in major urban centers and select resort locations with 50 to 350 keys.

SoCal Real Estate spoke with Rauch about his predictions for the San Diego hotel market in particular, since that is where his firm is based. We also spoke with Alan Reay, president of Atlas Hospitality Group in Irvine, California, about the Orange County and Inland Empire hotel-investment markets.

“San Diego remains a robust hotel market for investment,” Rauch says. “Most owners are hesitant to sell as all submarkets have seen positive RevPar growth in 2018, and our forecast is for more of the same in 2019.”

He adds that these fundamentals will keep San Diego hotel prices a bit lofty as cap rates have not materially increased and interest rates have been low enough to ensure that all hotels are paying favorable rates.

Reay says the outlook for Orange County and the Inland Empire remains strong, from both a revenue standpoint and buyer demand. In Orange County, the coastal markets — which have high barriers to entry — as well as the Anaheim/Disneyland area, are interesting investors the most. In the Inland Empire, Ontario is in very high demand, due to both the Airport and an expanding commercial base of businesses, especially in industrial/distribution markets, he adds.

The strongest submarkets for hotel investment in the San Diego market, according to Rauch, are all of Downtown, Mission Valley, and La Jolla/University City. “Downtown has micro markets that include Little Italy, Gaslamp Quarter, and East Village, and Mission Valley has Hotel Circle and the corporate side of Mission Valley, further from the beaches.”

But not all types of hotels are the best option for investors in these markets over the next year. Regarding San Diego, Rauch says, “There are several property types that garner the most attention. Select-service leading brands like Hilton and Marriott (Hilton Garden Inn, Homewood Suites, Hampton Inn, Marriott Residence Inn, Courtyard, and Fairfield Inn & Suites) are highly desirable. Further, all independent hotels that are in the aforementioned submarkets or can be converted to leading brands (Hilton or Marriott strongly preferred) are considered desirable.”

Alan Reay | Courtesy a representative of Atlas Hospitality Group

Similarly, in Orange County and the IE, Reay says, “Newer upper limited-service product, such as Marriott/Hilton brands (e.g., Residence Inns, Courtyard by Marriott, Hilton Garden Inn, and Hampton Inn & Suites)” are strongest.

Despite rising cap rates, net income continues to rise marginally holding prices very close to where they were at the peak, one year ago, Rauch says. “I do not expect increases from today; however, I am not seeing a material decline in prices. This should change as we get closer to a change in market conditions.”

Reay says Orange County prices are already high, “so we see prices still moving up but less than 5 percent. In the Inland Empire, as prices have been so low for so long, we see much greater appreciation as investors focus on secondary markets where they perceive the returns to be higher, so we are projecting increases of closer to 10 percent in this market.”

Reay adds that he expects to see an increase in new supply in Orange County and the Inland Empire. “As prices have moved up, it has become more economically feasible to build new.”

Another trend Rauch says he is noticing in the San Diego hotel-investment market is an increase in Chinese travelers as well as a focus on the Chinese traveler by tourism officials. “This is arguably the fastest-growing travel market for U.S. destinations, and despite no direct air from China to San Diego, the market here receives a fair share.”

Rauch points out an interesting fact: 2019 will be a very weak year for San Diego business travel due to convention-calendar shifts (geographic impact due to meeting planners going east then west on rotation). “2020 will be good again, but there is no Convention Center construction initiative on the ballot. This could create a strain as new hotel supply is increasing Downtown, and no capacity increase at the Convention Center would mean convention demand stays at the current peak.”