Once considered a niche market, self storage has steadily evolved over the past decades, growing into its own as a resilient asset class that performs well throughout market cycles. Today, storage is seen as a great way to diversify commercial real estate portfolios, acting as a hedge against economic downturns.
“It’s time for investors to think creatively,” said Doug Ressler, manager of business intelligence at Yardi Matrix. “This asset class is known to be resilient to recessions, fast and inexpensive to build, highly flexible in its rent structure and ‘easy’ to manage. It’s also a business that is becoming more enmeshed in the fabric of our society,” Ressler noted.
In fact, during three of the most volatile and unpredictable years—2020 through 2022—self storage posted an exceptional performance. Last year, the sector returned to more sustainable growth levels, a normal behavior that all industry players anticipated.
“Fundamentals, particularly occupancy, returned to normal seasonal patterns in 2023, which skewed year-over-year comparisons, especially early on in the year, since the period from late 2020 to early 2022 was so abnormal with respect to seasonality,” noted Tyson Huebner, director of research with Yardi Matrix.
Overall, many of the characteristics that have made the sector strong for years haven’t changed. There’s still a wide array of demand sources, an expanding tenant base coming from demographic expansion, a wider acceptance and use of the property type, as well as an increasing average customer length of stay combined with greater and more frequent existing customer rate increases. Additionally, the sector is benefitting from ongoing institutionalization, with industry players operating with high and increasing NOI margins, Huebner pointed out.
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For all the above reasons, 2023 was a good year for veteran self storage investors. But for those who joined the sector after the pandemic hit in March of 2020, the current reversion to normal growth levels seems drastic, according to Aaron Swerdlin, the leader of Newmark Capital Markets’ national self storage practice group.
“Self storage has been the number one performing asset class across the REIT universe for more than the last 20 years,” Swerdlin said. “I believe this level of performance will continue, just not with as much disproportion as it has the last three years.”
What fed concerns and created hesitation during 2023 was the lack of certainty on the monetary policy front and confidence in economic forecasts, the Newmark veteran noted. Economic activity remained stronger than initially projected, resulting in a lengthier tightening cycle, a challenging sticky inflation and continually evolving outlooks.
“The single most important element the market needs is certainty,” Swerdlin said.
And that is precisely what self storage players didn’t have last year. However, volatility and unpredictability didn’t stop all investors. Despite the wide bid-ask gap and the high cost of capital, self storage sales volume rose to nearly $3.4 billion in 2023, according to Yardi Matrix data. While it is true that this marked a substantial drop from the more than $9.9 billion sales volume recorded in 2022, last year marked a year of readjustments for the industry, with several mergers and acquisitions making headlines.
After merging with Life Storage in April, Extra Space became the largest storage operator in the U.S. by number of facilities. Today, Extra Space serves nearly 2.2 million tenants at any given moment, according to CIO Zach Dickens.
“There are many benefits to building and maintaining scale in the self storage industry,” Dickens said. “The company enjoys greater purchasing power when entering repair and maintenance contracts with its vendors or when purchasing supplies due to its scale.”
Another notable transaction was Blackstone Real Estate Income Trust Inc.’s sale of Simply Self Storage, where Newmark served as the co-lead advisor. Public Storage acquired the 127-property portfolio.
“The Simply Self Storage transaction is a valuable data point for both the self storage sector and the real estate industry overall,” Swerdlin said.
Self storage development hurdles
The strength of the self storage sector has endured, with fundamentals remaining steady. But despite sustained demand, new construction has been slow to keep up. Over the past few years, developers have had to face multiple challenges.
Swerdlin believes the pivot for development activity began in April of 2020, when those who didn’t have a shovel in the ground, paused their projects because of the uncertainty caused by the health crisis. Later that year, it became evident that the pandemic was going to be a tailwind for storage, but other issues—such as supply chain disruptions and increased construction costs fueled by inflation—emerged. Then, the Fed’s prolonged monetary tightening made the cost of construction capital prohibitive for many developers. And the effects of this policy are still seen today and will be felt over the next few years.
Given that the high cost of capital has already lessened construction activity in the second half of 2023 and we will likely see a slowdown in construction starts throughout 2024, Yardi Matrix expects self storage completions to merely reach approximately 42.5 million rentable square feet in 2026. A recent Research Bulletin released by the data provider found that more than 49 million rentable square feet of storage space is anticipated to come online this year.
“Although development activity has continued to impact certain markets and trade areas, on a national scale it is a far cry from 2018 and 2019’s record levels and Yardi Matrix’s forecast calls for completions as a percent of inventory noticeably below the long-term average for the sector,” Huebner detailed.
The upside is that as the U.S. economy’s growth decelerates and uncertainty lingers, self storage is not in an oversupplied position, which limits risks for storage operators.
Self storage industry trends that will govern 2024
Anticipating customer behavior and needs benefits any self storage operator, allowing them to better determine the right marketing tools, to set promotions and rental rates, but one of the top areas to focus in the immediate future is automation.
“The customer experience is always the true north, “said Jeff Ley, marketing and development analyst at Guardian Storage “Major differences at Guardian pre- to post-pandemic are a fully staffed internal call center, several sites with remote management, and an online experience with AI chat.”
For the locally owned and operated storage provider—with assets across Pennsylvania and Colorado—the focus will continue to be on expanding automation and efficiencies. And that is exactly what bigger players are also betting on.
“There is a strong and positive trend towards implementing new and improving existing technology in our industry,” Dickens said. “We are seeing this play out with the use of mobile self storage applications, better security to protect our properties, and the implementation of kiosks for renting units.”
Meeting customers where, when and how they want is going to be a focal point for Extra Space Storage going forward. The REIT’s clients can choose to connect via multiple channels, including in person, over the phone, online, via a QR code, or through a kiosk.
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Besides becoming more efficient operationally, a lingering challenge will keep storage operators up at night in 2024: the tight lending environment. As debt remains expensive relative to the last five years, it will continue to be challenging to use debt as a way to improve the return on invested capital, Swerdlin warned. Dickens also believes that accretive acquisitions will be limited into the first half of the year, but later, the number of available properties for sale should increase as owners look for liquidity or need to refinance their current loans.
“Each property owner’s circumstances tend to be individual and varied, so an element of creativity is required,” Dickens said.
Swerdlin expects core, urban, infill and stable assets to garner a disproportionate amount of allocation from lenders. Assets facing some sort of distress or in a forced transaction situation, are also bound to remain attractive to lenders. Overall, the Newmark specialist anticipates that most of the opportunistic lending in 2024 will be deal specific—i.e. existing loan maturities, interest rate cap expirations, fund-life, fund redemptions etc.
One way to successfully navigate through the multiple challenges of this year is to set pragmatic goals that can be adjusted as needed, banking on the sector’s robust historical returns and favorable fundamentals.
“While there are some regional issues that arise from our current economy, such as property tax reevaluations, rising insurance costs and oversupply, our biggest challenge in 2024 is expectation,” Ley said. “Can we read the state of the economy properly and plan our business accordingly?” he wondered.
Irrespective of how the economy performs, the 2024 outlook for the self storage sector remains optimistic for the vast majority of players. While the high cost of capital will continue to be an issue, there will be acquisition opportunities as some owners capitulate. Meanwhile, rent growth is likely to dampen on the path to normalization.
“The storage sector has economic resilience that allows it to be consistently profitable. Embrace it and place the emphasis on adapting towards the future,” Ley concluded.
