Fitch Ratings – New York-19 February 2015: The year-over-year change in TTM RevPAR has been positive for 53 sequential months during this US lodging upcycle through January 2015, according to Fitch Ratings. This represents less than half of the duration of the 112-month recovery that began in the early 1990s. And although closer in duration to the 65-month recovery that started in the early 2000s, Fitch expects further RevPAR gains over the next 1-3 years based on its review of key lodging cycle indicators.
Accelerating GDP growth (led by private investment and personal consumption expenditures) and limited new supply support Fitch’s outlook for a longer than average upcycle. Fitch expects RevPAR to increase by 6% during 2015, based on a 1% lift in occupancy and 5% ADR growth. Most key lodging demand indicators – GDP, unemployment, interest rates, consumer confidence, and travel and tourism – are trending positively and are above their recent averages.
Traditional early warning signals of an impending decline in revenue per available room, such as the Index of Leading Economic Indicators, hotel occupancies and hotel REIT share prices, suggest an industry downturn during the next one to three years is unlikely. Sharply lower oil prices should boost lodging demand – particularly at lower price tier hotels and drive-to-destination resorts. US dollar strength could reduce inbound international visitation rates.
New hotel supply is accelerating, but our 1.2% growth expectation for 2015 remains comfortably below the 2% long-term industry average. Several factors point to more development starts, including growth in real average daily room rates, improved lender willingness to make construction loans, acquisition prices at or above replacement cost values, and less competition for development sites from alternative uses, such as rental apartments, in select markets.
Hotel pricing in the direct market reflects intense investor competition for acquisitions, primarily among REITs, institutional investors and sovereign wealth funds. Transaction volumes were up 36% to $92 billion in 2014. Cap rates declined slightly to just under 8%, which is somewhat concerning given the larger share of transactions in higher cap rate secondary markets, in the context of Fitch’s view that we are over halfway through this upcycle.
Hotel loan underwriting standards are slipping. Interest only loans are increasingly common and structural protections are being reduced or eliminated. Loan-to-value (LTVs) ratios are generally in the 60%-65% range, with mortgage REITs willing to lend up to 75% for value-added deals. So-called “bifurcation” deals where the fee and leasehold interests are separated can result in effective LTVs as high as 90%. Development financing is also increasingly available, with some scope for non-recourse (or limited recourse) construction loans at low ( about 30%) LTVs.
