A Region in Transition S1

2016

Trends in Washington Commercial Real Estate

S10

A Region in Transition

A Collaborative Publication of Delta Associates and Transwestern.

You may neither copy nor disseminate this report. If quoted, proper attribution is required. To order your copy of TrendLines, contact the Publications Administrator at 202.778.3100.

2 Foreword To our friends, clients and colleagues:

We are pleased to share this 19th annual edition of major efforts emerged in 2015 that will help guide the TrendLines: Trends in Washington Commercial Real conversation about how the region will grow and prosper Estate, a collaborative effort of Delta Associates and in the future: the Roadmap for the Washington Region’s Transwestern’s research group. In this report, we review Economic Future led by George Mason University and the results of 2015 and shed light on the forces and issues the 2030 Group; and the Global Cities Initiative by the that we anticipate will shape the region’s economy and Metropolitan Washington Council of Governments, the S1 commercial real estate markets in 2016 and beyond. Greater Washington Board of Trade, and the Consortium PhilLIP M. McCarthy of Universities of the Washington Metropolitan Area. As expected, 2015 was a year of economic expansion Executive Managing S2 These initiatives, if widely embraced by local jurisdictions in the Washington area, due in no small part to the Director - Market Leader and the private sector, can change the approach to S3 stabilization of federal government employment and Mid-Atlantic Region economic development and improve the region’s procurement after several years of cutbacks. The S4 chances of fostering sustainable economic growth private side of the regional economy — particularly the and a flourishing real estate market. S5 professional and business services sector — picked up the slack and the region recorded the most significant Overall, we expect 2016 to be a year of continued S6 job growth in a decade. In response to a growing growth, but also a year of rapid change. To succeed in S7 economy, market conditions improved for all major the marketplace, real estate developers, owners, and property types during 2015 — trends that are poised investors must understand how these changes will Keith A. foery S8 to continue during 2016. influence investment and development opportunities. This report highlights major changes afoot not just in the Executive Managing S9 Though market fundamentals in the Washington area are Washington region, but nationally and globally as well. Director - Market Leader strengthening, we detect a transition in forces that will S10 With this in mind, we have subtitled this report A Region Mid-Atlantic Region power economic and real estate market growth in the in Transition. future. Historically, the federal government drove growth in the Washington area, through its employment, leasing, Over the years, we have been fortunate to work with the and contracting activity. But the federal presence in the individuals and organizations contributing the success region, although stabilized, is unlikely to grow significantly of the Washington area’s economy and its real estate in the foreseeable future as a share of the overall markets. Thank you for your business. We appreciate your economy. As a result, the private sector will lead the interest in our consulting and other services — including current expansion cycle, relying more than ever before on brokerage, property management, investment sales, and innovation, international trade, and regional cooperation. development — and we look forward to being your real estate service partner in the period ahead. Best wishes The region’s public and private sector leaders have for a successful 2016. already identified the need to change the way that business is done in the Washington metro area. Two David Weisel, CRE Chief Executive Officer

3 To our valued clients, colleagues, and business associates: Dear TrendLines® Recipient,

Baker Tilly is proud to continue our partnership and support of TrendLines® as In today’s rapidly evolving real estate environment, access to timely and accurate market Washington, DC’s leading real estate accounting and advisory firm. information is vital to running your business successfully. The TrendLines® Report has delivered a valuable overview of the Washington, D.C., real estate market for many years. This year marks the nineteenth annual TrendLines® conference, and with it, a longstanding tradition of informative and forward-thinking conversations among PNC Real Estate is happy to continue sponsoring this premier resource for our region’s the Washington, DC real estate community. Companies and institutions investing commercial real estate professionals. The Real Estate Banking segment of PNC Real in the region’s real estate rely on TrendLines® as the premier resource for Estate has been a major participant in the Washington, D.C., marketplace since 1987. development and investment opportunities. Just in the last three years, our D.C. office has provided more than $3.0 billion in new capital, including construction loans, bridge loans, lines of credit and permanent loans. During the past year, innovative steps have been taken to boost the area’s S1 economic growth with collaborative efforts throughout the DC metropolitan region. PNC Real Estate as a whole delivers one of the broadest platforms of products and S2 Our nation’s capital continues its gentrification with exciting new projects located services in the industry. Our capabilities include acquisition, construction and permanent in the SE and SW waterfront, as well as the expansion of the U Street, Shaw, and financing for public and private developers and investors; agency financing for S3 14th Street neighborhoods. Virginia has immensely benefitted from Metro’s Silver multifamily and seniors housing properties; debt and equity capital for the affordable S4 Line expansion and Maryland will open another casino this year at National Harbor. housing industry; and access to the capital markets and treasury management services. Accompanying these developments, the recovering economy will complement In addition, through Midland Loan Services, we provide third-party loan servicing, asset S5 our growth as a region and as such, major corporations are choosing our region management and technology solutions. for their headquarters. Together, these factors contribute to greater employment S6 PNC is one of the nation’s top banks by deposits, with $362 billion in assets and 2,600 opportunities, which increase our tax base for education and infrastructure. branches in 19 states and the District of Columbia as of September 30, 2015. Our S7 Baker Tilly is dedicated to the real estate community and is recognized for strength lies not only in our size, but in the innovative ways in which we deliver products S8 exceptional delivery of tax, assurance, and consulting services. Our professionals and solutions to help you achieve your business goals. look forward to continuing to advise the businesses and entrepreneurs who shape To learn how we can bring ideas, insight and solutions to you, call us or visit pnc.com/ S9 DC’s real estate industry. Our breadth and depth of resources focused on the real realestate. S10 estate industry help our clients maximize opportunities, implement actionable ideas, and minimize risk in an ever-changing landscape. Sincerely,

Sincerely, BAKER TILLY VIRCHOW KRAUSE, LLP

Michael N. HarrelD William R. Lynch III President Senior Vice President PNC Bank – Greater Washington Area PNC Real Estate Todd Stokes, Managing Partner – DC Metro Area 202.835.5513 202.835.4513 Baker Tilly Virchow Krause, LLP [email protected] [email protected] 703.923.8236 [email protected] PNC is a registered mark of The PNC Financial Services Group, Inc. (“PNC”). © 2016 The PNC Financial Services Group, Inc. All rights reserved. Connect with us: bakertilly.com

4 Table of Contents

Navigation Panel Section 1 A Region in Transition 7

Table of Contents Section 2 The National Economy 18 Previous Page Section 3 The Washington Area Economy 28 S1

S2 Section 4 The Washington Area Office Market 35 S3

S4 Section 5 The Washington/Baltimore Regional Flex/Industrial Market 44

S5 Sections Section 6 The Washington Area Apartment Market 50 S6

S7 Section 7 The Washington Area Condominium Market 60 S8 S9 Section 8 The Washington Area Retail Market 70 S10 Next Page Section 9 Capital Markets and Investment Trends 78

Section 10 2016 TrendSetter Award Recipients 87

5 A Region in Transition

S3 Acknowledgments: The editor, David Weisel, CRE, wishes to acknowledge and thank the TrendLines team at Delta Associates: S4 David E. Versel, AICP, Senior Vice President; David Parham, Senior S5 Vice President; William Rich, Senior Vice President; Jonathan Chambers, Associate; and Dylan Jones, Associate. Special thanks S6 are due to Elizabeth Norton, Transwestern’s Managing Research S7 Director—Mid-Atlantic Region, who authored and reviewed sections of the report. The entire Delta Associates team made valuable S8 contributions in various ways. Ji Chang and his creative design team S9 at Transwestern who made the report visually attractive have our

S10 gratitude. Finally, we greatly appreciate the dozens of industry leaders who contributed their insights about the future of the commercial real estate industry in the Washington area.

Representations: Although the information contained herein is based on sources that Delta Associates (DA) and Transwestern (TW) believe to be reliable, DA and TW make no representation or warranty that such information is accurate or complete. All prices, yields, analyses, computations, and opinions expressed are subject to change without notice. Under no circumstances should any such information be considered representations or warranties of DA or TW of any kind. Any such information may be based on assumptions that may or may not be accurate, and any such assumption may differ from actual results. This report should not be considered investment advice.

6 S1 | A Region in Transition

S10 A Region in Transition

A Region in Transition

While the overall economic news is positive, it comes with a major caveat: the forces that will drive economic growth in the Washington region in the future will differ from those that have driven growth in the past. Where past growth cycles in the region were led mostly by Federal employment and procurement, all signs point to flat or declining Federal spending in the region over the next several years. Consequently, the impetus for growth in the Washington economy and real estate market must come from the private sector. There are several nascent efforts aimed at fostering better conditions for starting and growing businesses in the Washington area. To succeed, these efforts must capital- S1 ize on the dramatic political, economic, and cultural changes that are reshaping how the region will grow and prosper. With this in mind, we believe that Washington is a region in transition. Our S2 research for this year’s TrendLines highlights several ways in which the Washington area is changing. S3 We think that change in the Washington area will be shaped in part by these four MegaTrends: S4 1. THE FEDERAL GOVERNMENT IS AT A CROSSROADS. The influence of the Federal government over the Washington metro area’s economy – direct employment, procurement, and related S5 activity – has waned dramatically over the past several decades. The region’s economic prospects S6 going forward will necessarily depend far more on the performance of the private sector.

S7 2. THERE IS A MISMATCH BETWEEN HOUSING SUPPLY AND DEMAND IN THE REGION. At recent construction rates, the Washington metro area is producing 13,000 fewer housing units per year S8 than would be justified by job and household growth. Undersupply is helping fuel appreciation S9 growth that increasingly prices households out of the market. Two huge demographic cohorts – Baby Boomers and Millennials – are driving the housing market, but with different and often S10 contradictory preferences. The mismatch between overall supply and demand and between selection/price and household preference/budgets will be key issues for the region in the coming years. 3. THE SHARING ECONOMY LOOKS A LOT LIKE LEASING OR BUYING. Today, it is possible to take a vacation that includes driving a shared car, staying in a private room or home, using someone else’s bicycle or golf clubs that you rented, eating a meal in a home with a local family while wearing someone’s clothing that you rented, and then returning to work in your shared office space. These are examples of the sharing economy – one of today’s hottest economic topics. We take a look at two sharing economy examples that directly affect real estate: Airbnb and the hotel industry; and coworking space and its relation to the conventional office market. 4. COMMERCIAL REAL ESTATE MUST BECOME MORE RESILIENT. Catastrophic events, both natural and man-made — floods, storms, droughts, terrorism, cyber-attacks, and even economic shocks — require preparation and a new way of looking at the world. The term that has emerged to describe these efforts is resilience. The commercial real estate community – planners, developers, architects, engineers, construction companies, owners, and managers -- will need to be more proactive in order to make their assets more resilient and protect their investments.

S1 | 8 A Region in Transition

This year is likely to be one of transition for the Washington metro area’s economy and commercial real estate market. We are likely to see a transition from weak job growth to stronger, from excess Federal Employment apartment deliveries to more equilibrium conditions, and from experiential real estate as a new Washington Metro Area | 1950 – 2015* niche to a full-fledged template of how to develop and operate real estate. Kennedy- Nixon- EisenhowerCJohnson Ford arterReaganBush ClintonOBush II bama Yet, for all the change in our market, we see a lot of the constants enduring, qualities of the region I +21 that have underpinned our successful market for decades: The highest-paid and best-educated 400 +8 +17 -17 workforce in the country; the presence of the Federal government that lends stability and which 0 +35 -55 +23 =+4 appeals to long-term investors; and the entrepreneurial spirit that is creating jobs and attracting 350 Millennials. Savvy investors can capitalize on this blend of transition and consistency to yield +74 successful real estate results. 300 S1 We hope the information in this report assists you in making informed decisions to meet your -5 250 S2 business objectives in 2016 and beyond. Best wishes for success in the period ahead.

S3 200

S4 Megatrend #1: Federal Government at a 150 S5 Crossroads 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 S6 Still Important, But Not As Dominant, THE Federal Government Source: BLS (Not Seasonally Adjusted), GMU Center for Regional Analysis, Delta Associates; February 2016. S7 Faces Changes S8 For better or worse, the Washington metro area economy has long been dominated by the Federal Federal Procurement government. While the conventional wisdom remains that Washington is recession-proof, the truth S9 Washington Metro Area | FY1980 – 2015 is much less optimistic. In fact, the influence of the Federal government over the Washington metro S10 area’s economy has waned dramatically over the past several decades. In 1950, 38% of all jobs in the 2010: 90 $82.5B region were provided by the Federal government; today, government workers account for just 12% 2015: 80 of the region’s jobs. While the number of Federal jobs has fluctuated over the past 20 years, there $71.1B are presently about 365,000 people in the region’s Federal workforce – the same as in 1994. 70 60 s Equally important to the region’s economy is the influence of Federal procurement. Between 1980 50 and 2010, the amount of annual Federal procurement spending in the region increased from $4.2 40 billion to $82.4 billion. From 2010-2015, though, procurement spending decreased by 14%, and is $ Billion 30 not expected to approach its 2010 peak anytime soon. 20 The combination of flat Federal employment and declining procurement is contributing to a dramatic 10 decline in the influence of the Federal government on the Washington area’s economy. In 2010, the 0

Federal Government sector accounted for about 40% of the region’s Gross Regional Product (GRP). 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 According to the George Mason University Center for Regional Analysis, by 2020 Federal spending Source: GMU Center for Regional Analysis, Delta Associates; February 2016. will represent only 27% of the Washington area’s GRP.

S1 | 9 A Region in Transition

The negative impacts of Federal cutbacks on the region’s office market have been exacerbated by the actions of the General Services Administration (GSA). During the current cycle, GSA has consoli- Share of Gross Regional Product By Source dated more Federal agencies in owned space, reduced the amount of square footage per employee, Washington Metro Area | 2010 & 2020 and relocated several agencies to lower-cost spaces. As a result, from 2012-2015 the total amount of Other Federal Other Federal office space leased by GSA in the region declined by three million square feet and the average rent 7.7% 10.7% Fed Wages for GSA leases dipped by about $4.50/SF. The GSA is expected to continue these trends – this will & Salaries further depress office demand and rental rate growth in the region’s office market. Fed Wages 6.7% & Salaries 10.0% Looking ahead, several factors could have profound effects on the role of the Federal government in Procurement Total Federal Total Federal 12.8% the Washington area’s economy: 39.8% 27.2% Non-Federal Non-Federal • The 2016 presidential election is shaping up to be the most unpredictable race since at least 60.2% 70.2% S1 1968, and the results of the election could result in a fundamental reshaping of the govern- S2 ment’s footprint in the region. Or not — cataclysmic changes anticipated ahead of previous changes in administration and parties often did not pan out. Procurement 19.1% S3 • Pressure is building in Congress to pursue another round of Base Realignment and Closure S4 (BRAC) activity. The 2005 BRAC process resulted in a shift of millions of SF of office space from 2010 2020 leased buildings to GSA-owned properties, and between submarkets within the region. S5 Source: GMU Center for Regional Analysis, Delta Associates; February 2016. • The heightened threat of terrorist attacks is likely to lead to higher security standards for S6 government agencies, which would favor GSA-owned properties over leased space. S7 • The potential for an international military conflict would ramp up defense spending, which GSA Leasing Trends: Downsizing S8 would drive procurement spending for defense and cybersecurity contractors. Washington Metro Area

S9 Regardless of how these factors play out, it is clear that the Federal government will not dominate 60 the Washington region’s economy in the future as it has in the past. The region’s economic pros- S10 pects going forward will necessarily depend far more on the performance of the private sector. 59

55 Millions of SF Leased

53 2012 2013 2014 2015 • Approx. 40% of expiring GSA leases will be downsized and moved to smaller/consolidated space

Source: GSA, Delta Associates; February 2016.

S1 | 10 A Region in Transition

Megatrend #2: Housing Market Mismatch Demand for Housing: Type of Housing Washington Metro Area Not Enough Housing to Meet Demand, and Not Always the Right Types Net change: 255K 1,800 1,695 At recent construction rates, the Washington metro area is producing 13,000 fewer housing units per 1,600 2011 2023 year than would be justified by job and household growth. 1,440 1,400 As of 2011 there were 2.12 million housing units in the Washington metro area. Of these, 675,000 (32%) were multi-family units. According to the George Mason University Center for Regional 1,200 Net change: 155K Analysis, housing demand in the region between 2011 and 2023 will total 410,000 additional 1,000 S1 830 housing units, an average of 34,000 per year. Of this demand, 155,000 units (38%) will be for 68% 67% 800 675 S2 multi-family units. 600 S3 While expected job growth will sustain demand for housing in the region, in practice, the region’s housing production has not kept pace with demand during this cycle. During the last expansion Thousands of Households 400 32%33% S4 cycle from 2000-2005, the region added an average of 37,000 housing units per year – by compar- 200 ison, the region only added an average of 21,000 units per year from 2010-2014. With demand pro- S5 0 jected to average 34,000 units per year, this recent construction pace amounts to an undersupply of Single-FamilyMultifamily S6 13,000 units per year. The repercussions of this undersupply include individuals sharing housing or delaying household formation, and households finding homes outside the metro area and enduring Source: GMU Center for Regional Analysis, Delta Associates; February 2016. S7 long commutes. Partly due to the slow pace of housing construction, the median home sale price in S8 the Washington metro area increased by 24% between June 2010 and June 2015. New Building Permits for Privately Owned Residential Units S9 The undersupply of housing in the region has also had a dramatic effect on the rental market, particularly for low-income renters. From 2009-2015, Delta Associates’ research shows that the aver- Washington Metro Area S10 age effective apartment rent in the Washington area increased by 20%. The Washington area has 45,000 2004: 5+ Units 2-4 Units SF become of the most cost-burdened rental markets in the U.S.– as of 2014, 81% of households in the 40,000 38K region that earn less than $45,000 per year spent more than 30% of their incomes on housing. 35,000 As with the rest of the U.S., the Washington area’s housing market is primarily being influenced by

30,000 2014: the wants and needs of two generations: Baby Boomers and Millennials. The divergent – and often 24K contradictory – preferences of these two generations will shape the region’s housing market over 25,000

the next decade and beyond. 20,000 rmits Issued

Pe 15,000

10,000 As with the rest of the U.S., the “ 5,000 0 2000 2002 2004 2006 2008 2010 2012 2014 Washington area’s housing market 2001 2003 2005 2007 2009 2011 2013 is primarily being influenced by the Source: Census Bureau, Delta Associates; February 2016. “ wants and needs of two generations: Baby Boomers and Millennials.

S1 | 11 A Region in Transition

Demand for Housing: Washington Has One of Highest Cost Burdens for Lower Income Renters Largest Housing Markets | United States

85% 80% 75% 70% 65% 60% 81% 79% 78% S1 55% 73% 70% 50% 63% S2 with Cost Burdens 57% 56% 45% 49% 48% 46% 40% S3 n o s a a U.S. Dallas Boston Atlant Chicago ouston New York H Share of Renters Making $30,000-$44,999 hiladephi S4 Washingto Los Angele P San Francisc

S5 Note: Cost-burdened households pay more than 30% of income for housing. Photo Source: JCHS tabulations of US Census Bureau ACS Data, Delta Associates; February 2016. S6

S8 Baby Boomers: Postponing Retirement and Aging in Place Labor Force Participation Rate and Housing Mobility S9 18% S10 65+ Labor Force Participation Rate 16% 65+ Annual Housing Mobility Rate

te 14% Ra

12%

10% rticipation

Pa 8% e rc 6%

4% Labor Fo

0% 1990 2000 2010 2014 Year

Source: Census Bureau Decennial Census, ACS, and Current Pop. Survey, Delta Associates; February 2016.

S1 | 12 A Region in Transition

Boomers are bucking the patterns of previous aging generations in two key ways. First, they are working longer – the 2014 national labor force participation rate among the 65+ population was Millennials Still Plan to Buy 17%, up from 15% in 2010 and from 12% in 1990. Second, Boomers more likely to stay in their United States homes and age in place than prior generations, with the mobility rate for individuals age 65 and 100% older dropping from 5.0% in 1990 to 4.1% in 2014. Even with many Boomers aging in place, the 93% sheer size of this generation contributed to Boomers accounting for about half of all new renter 90%

households in the U.S. over the past 10 years. So, contrary to popular notions, Millennials are not 80% 75% 72% the only force behind apartment demand. 70%

Millennials find themselves in a very different position. Only about one-quarter of young adults in 60%

the U.S. are married and living in their own households, compared with 43% in the 1980s and 56% 50% in the 1960s. Many Millennials have yet to even form their own households: as of 2015, 35% of those 39% S1 40% age 18-34 live with their parents – this figure has historically hovered around 30%. Among those who S2 30%

are living on their own, most are renting their homes, and a growing share is living in central cities or Some Time in the Future 20% S3 close-in suburbs. Percentage Who plan to Buy a Home 10% S4 The critical question for the housing market as it relates to Millennials is this: Will they start buying 0% homes in large numbers and, if so, where will they buy? Like prior generations, Millennials do want to 18-3435-44 45-5455+ S5 be homeowners: Trulia reports that 93% of adults age 18-34 plan to buy a home in the future. More Age S6 critically, as documented in a recent ULI survey, a significant number of Millennials actually want to live in the suburbs. With median single-family prices in excess of $500,000 in most of Washington’s Source: Goldman Sachs, Trulia, Delta Associates; February 2016. S7 close-in suburbs, however, most young buyers will either need to settle for condos or townhouses, or seek homes in outlying areas. S8

S10 Megatrend #3: The Sharing Economy and Real Estate

The Sharing Economy: Seems Like Leasing or Buying The sharing economy is one of today’s hottest economic topics. What began as a cottage industry focused on lending, borrowing, and trading now has the potential to generate at least $335 billion in revenues by 2025, according to estimates from PwC. The sharing economy has definitely become big business. From forerunners such as Couchsurfing and Craigslist that were based on exchanging excess or un- used goods and services between individuals, sometimes for free, the sharing economy has explod- ed since the 2008 recession. Known by a variety of terms — Collaborative Economy, Gig Economy, On-Demand Economy, Collaborative Consumption, Peer Economy, among other — it now comprises hundreds of large and small companies and organizations that are selling, lending, or giving away just about anything imaginable. It has become monetized and depends on technology to maximize convenience to users, and it increasingly relies on branding as the measure of quality and trustworthi- ness. Significantly, some companies are growing in part through service expansion. For example, Uber not only gives rides but it has also started food delivery (UberEATS) and a messenger service (UberRUSH).

S1 | 13 A Region in Transition

Sharing and the Hotel Industry Examples of Sharing Economy Companies Airbnb does not own any hotels, but it has more accommodations (list- SPACE TRANSPORTATION GOODS/FOOD SERVICES MONEY ings) than the newly-merged Marriott/Starwood and Hilton combined, Airbnb Uber Chegg Freelancer Lending Club according to The New York Times, and it is by far the largest sharing HomeAway Lyft Ebay Instacart Funding Circle economy service in the lodging sector. Since its founding in 2008, Love Home Swap ZIpcar Craigslist Task Rabbit Prosper Airbnb says it has grown to over two million listings serving 60 million guests in more than 34,000 cities and 190 countries. It has a current Onefinestay RelayRides Rent the Runway Angie’s List Kick Starter market capitalization of $25.5 billion; only Marriott/Starwood and Wework Zimride Etsy Elance Go Fund Me Hilton Worldwide are more valuable. Airbnb’s revenue grew 106% in Regus Car2Go Cookening Bidwilly Zopa 2015 — far outpacing Choice Hotels and Hilton, the next-closest hotel S1 chains, each of which saw about 9% growth.

S2 Today, it is possible to take a vacation that includes driving a shared car from Turo or Getaround, In the District of Columbia, Airbnb’s inventory is only about 12% as large as the hotel room inventory, but this figure is growing. Given S3 staying in a private room or home that you found through Airbnb or HomeAway, using someone else’s bicycle or golf clubs that you rented through Spinlister or GearCommons, and eating a meal that the District’s hotel occupancy rate has risen since 2010, even as S4 in a home with a local family that you discovered through BonAppetour or Cookening while wearing the room supply has grown, it appears that Airbnb may be helping to someone’s clothing that was listed on Rent the Runway or Vinted. And during your vacation, a pet sit- expand the market instead of cannibalizing existing market share. Its S5 ter from DogVacay or Rover.com can take care of your dog. You can facilitate all of these transactions pricing may be affecting the composition of hotel demand, particularly S6 through a website or an app on your smartphone, and when you return to work in your shared office in the economy sector. The $118 average price of an Airbnb accom- space at WeWork or Cove, you can write an electronic review of your experiences for others to read, modation in the District in 2015 is about 43% less than the average S7 helping them to decide if this is for them. By the way, you will also be rated for your desirability as a daily rate for a hotel room, indicating that Airbnb is primarily serving S8 customer or a guest, so if you broke your Airbnb host’s best china without offering to replace it or pay the leisure travel sector, rather than business travelers, and perhaps for it, you may want to look for a different service the next time around. inducing new demand from guests who would not otherwise pay for S9 a hotel. Perhaps you have noticed that none of these transactions involved any real sharing – all of them S10 require a monetary payment. In other words, sharing is actually very similar to those conventional This could change, however, with the introduction of serviced apart- concepts of buying and renting. ments through Airbnb for Business, a new division offering rentals with business class hotel amenities through a partnership with Bridg- So how is the sharing economy affecting the real estate industry? We will try to answer that by looking eStreet, which has more than 50,000 mid-range and luxury rentals in

at two sectors where the sharing concept has had direct consequences for real estate: the lodging about 60 countries. Additionally, the Wall Street Journal reports that and office sectors. Airbnb has discussed arrangements with national apartment operators to allow tenants to rent out their units in exchange for a share of the

revenue. However, it remains to be seen if Airbnb will succeed in con- vincing local governments, tenant organizations, and property owners Airbnb does not own any hotels, but and managers that increasing the number of apartments on Airbnb “ will not cut the rental housing supply overall (affordable housing in it has more rooms (listings) than the particular has been a sensitive political topic), flout existing zoning new Marriott/Starwood and Hilton regulations, affect tax revenues, or compromise security and safety — issues that have been raised in several cities already. Looking ahead, combined. At $25.5 billion in market Airbnb is expanding into new services that will improve the experi- “ ences of both its hosts and their guests and is expected to broaden capitalization, it is the third-largest its strategic partnerships with apartment operators and perhaps even hospitality company in the U.S. hotel companies.

S1 | 14 A Region in Transition

Sharing and the Office Real Estate Industry The same shifts in consumer attitudes fueling the growth of Airbnb and other sharing economy companies are driving changes in the commercial office market. In addition, there are basic differences in the types of office jobs being created today, with independent contractors supplanting some permanent, full-time employees. These changes are affecting how and when office space is used and thus how it is designed and leased. New coworking concepts such as WeWork are offering coworking space with a new set of design, leasing, and occupancy parameters that are better-suited for today’s workers in sectors of the economy where the work is more demand-based. By 2020 up to one million professionals will work in coworking facilities, according to Emergent Research. In the case of WeWork, their business model involves renting large blocks of office space and build- S1 ing them out as fully furnished coworking spaces that range from unassigned desks in a large open S2 area to enclosed, lockable, private offices that can accommodate one or more people, and leasing them on a month-to-month basis. S3 Today there are over 70 coworking or on-demand office space locations of various types in the Wash- S4 ington area. Variations include Cove, MakeOffice, Carr Workplaces, Metro Offices, Regus, and Liquid- S5 Space (which is an online matchmaking service to list and find workspaces). The principal opportunity in the on-demand office space sector is that owners and managers can maximize their rents. For S6 example, it has been estimated that a typical coworking space in the Washington area averages 55 S7 square feet per person and an average membership cost of $500 per month — equating to more than $90 per square foot in rent to the operator. Of course, this premium rent is offset by higher operating S8 expenses, and occupancy rates typically are lower than in the conventional office market. But the lure S9 of making productive use from otherwise vacant or under-utilized space is appealing.

S10 While we expect coworking to continue to grow and to be a useful component of the office market, it is not likely to replace the vast majority of conventional office space demand. Megatrend #4: Resilience: Commercial Real Estate Must Adapt

Preparing for Problems, Designing for Recovery The specter of climate change and sea level rise is having a dramatic effect on the real estate and urban development world. In the wake of Hurricane Katrina, Superstorm Sandy, and other natural disasters, public and private interests alike have identified the need to plan and prepare for future catastrophic events. The term that has emerged to describe these efforts is resilience. This term, as commonly used, re- fers to preparations for all types of catastrophic events, both natural and man-made: floods, storms, droughts, terrorism, cyber-attacks, and even economic shocks. Business and political leaders around the world are rapidly embracing the notion that, unless cities and buildings are made more resilient to such events, the losses could be dire in both human and economic terms.

S1 | 15 A Region in Transition

The uptick in catastrophic weather events over the past 20 years is real and increasingly alarming. From 1950 through the 1990s, there was an average of about two natural catastrophes per year Catastrophe Costs by Type in the U.S. The average over the past decade has been eight per year; in 2011 alone there were United States | 1950 – 2013 14 such events. In terms of economic damage, the two costliest types of natural catastrophes are hurricanes/tropical storms and tornadoes. Between 1950 and 2013, these two types of events 0% caused more than $300 billion in damages (in 2014 dollars), representing 80% of the total damage 5% 2% nationwide. In Billions of 2014 Dollars 6% A wide variety of responses have been advanced to address the mounting threat from both natural Hurricanes/Tropical Storms $161.2 7% and man-made catastrophes. The Federal government now requires local governments to prepare Tornadoes $154.9 hazard mitigation plans in advance of disasters in order to qualify for FEMA funding. Congress has 41% Winter Storms $26.9 S1 passed several new laws aimed at improving the National Flood Insurance Program. Numerous state and local governments have undertaken adaptation plans that ensure that infrastructure and build- Terrorism $24.5 S2 ings are protected from rising sea levels. The nonprofit community has taken on many initiatives, Wind/Hail/Flood $21.4 S3 most notably the Rockefeller Foundation’s 100 Resilient Cities program that is building a dialogue among peer cities facing similar issues. Fires $6.0 S4 39% Professionals in the planning, engineering, and design fields have been devising new approaches Geologic Events $0.5 S5 to resilience. This is exemplified by RELi, a resiliency standard created by the design firm Perkins + S6 Will that is modeled on LEED (the Leadership in Energy & Environmental Design rating system of the U.S. Green Building Council) and measures how effectively buildings are designed to respond to Source: Munich Re, Delta Associates, February 2016. S7 different types of hazards and events. RELi is envisioned as a standard that can be used by under- writers to measure the mitigation of risk for structures built in vulnerable locations. S8

S10

S1 | 16 A Region in Transition

Resilient Building Design Strategies

Extreme Heat Sea-Level Rise/Flooding Extreme Wind Drought

• Siting and shading to reduce heat gain • Power center above floodplain • Envelope strengthening • Graywater recycling

• Super-insulated building envelopes • Landscape features: berms, wetlands, • Impact resistant glass • Rainwater catchment mangroves • Operable windows • Backup power capacity to HVAC • Xeric landscapes • Permeable or pervious paving • Glass that deflects heat • Material specification • Reduce water use—indoor • Reduce soil compaction • Green roofs • Tornado safe room • Reduce water use—landscape • Sewage backflow valve S1 • Trees and vegetation

S3 The commercial real estate community has been somewhat slower to respond to the rapidly increasing need for resilience, though. The conventional wisdom in the real estate development Resiliency Rankings S4 United States | 2010-2015 and finance world is that resiliency requires enormous upfront capital outlays with no increase on S5 return. The challenge is that future damages from floods and other natural disasters are typically not Least Vulnerable Most Adaptive measured in development pro formas, so there is no way to know the potential costs of ignoring S6 resilience measures. 1. Chicago 1. New York 2. Pittsburgh 2. Los Angeles S7 There are several recent projects that are challenging this mindset – mainly located in floodplains or 3. Atlanta 3. Washington, D.C. S8 coastal areas. While these have mainly been large-scale mixed-use projects such as The Wharf here in Washington, there have been some smaller scale developments in other cities that have begun 4. Boston 4. Chicago S9 to incorporate resilience into their designs. As the threat of catastrophic events rises, the real estate 5. Detroit 5. San Francisco S10 community will need to be more proactive in order to protect their investments. 6. Washington, D.C. 6. Houston The Washington area is, in spite of its low-lying location and prevalence of floodplain, well posi- 7. Seatlle 7. Boston tioned to thrive in a resilience-focused world. A recent study by Grosvenor examined the vulner- 8. New York 8. Pittsburgh

ability and adaptability of cities in the U.S. and globally. While this study found that Washington was 9. San Francisco 9. Seattle

moderately at risk for future catastrophes, particularly flooding, it also found that Washington was 10. Los Angeles 10. Atlanta among the most prepared cities in the world in terms of its ability to respond to hazards. This adaptability should be a great asset for Washington real estate in the years to come. Source: Grosvenor International, Delta Associates; February 2016. The Washington area is, in spite of “ its low-lying location and prevalence of floodplain, well positioned to “ thrive in a resilience-focused world.

S1 | 17 S2 | The National Economy

S10 The National Economy

The National Economy Revolving Credit United States | 1999 – 2015 THE NATIONAL ECONOMY OVERCAME A SLOW START AND EMERGED FROM 2015 IN GOOD CONDITION, BUT CONCERNS LINGER 15%

10% After a sluggish start, the national economy ended 2015 on a high note with strong job gains and respectable GDP growth. Through November 2015, the U.S. economy marked 70 consecutive 5% months of job gains and added more jobs in the past two years than in any two-year period since 1998-2000. The unemployment rate is low, new claims for unemployment insurance are at cyclical 0% S1 lows, and home prices rose. Still, some indicators have been only tepid and economic and political troubles around the globe reverberate through the U.S. economy, leading to the feeling that things -5% S2 are not quite stable yet.

12-Month Percentage Chang e -10% S3 Here are some highlights from 2015:

S4 • Payroll job growth was strong, with 2.71 million jobs added during 2015; job growth was led -15% 1999 2001 2003 2005 20072009 2011 20132015* by the Professional/Business Services sector, which is among the highest paying employment S5 sectors. In addition, the Federal government finally posted a net job gain in 2015, ending *12-month percentage change through November 2015, seasonally adjusted. S6 several consecutive years of reductions. Source: Federal Reserve Board, Delta Associates; February 2016. S7 • The unemployment rate continued to decline through the year, and stood at 5.0% at December 2015. S8 Change in U.S. Household Net Worth • After a sluggish start to 2015, GDP growth resumed in the 2nd quarter of 2015 and remained S9 United States | 2005 – 2015 healthy throughout the balance of the year. S10 GDP growth was primarily driven by increased consumer spending, though inventory cutbacks and 15.0% a slowdown in net exports prevented stronger growth. Strong employment growth over the year 10.0% Cumulative Annual Growth Rate (CAGR) = 2.96% pushed the national unemployment rate down throughout the year, even as the labor force participation rate increased. Despite the healthy job increases, much of the growth has come in 5.0% lower paying industries, leading to weak wage growth. This should change over the next couple of 0.0% years, as higher-wage industries add more jobs and the low unemployment rate forces businesses -5.0% to compete for top talent. -10.0% Another encouraging sign for the national economy is continued growth in consumer buying power

from increases in both household net wealth and revolving credit. These trends reflect the upside of 12-Month Percentage Chang e -15.0% historically low interest rates, which have encouraged consumers to invest their cash in riskier assets -20.0% and reach for their credit cards. With the national economy having weathered a scare in the interna- 2005 2006 2007 2008 2009 20102011 2012 20132014 2015* tional markets in August, the Federal Funds Rate was increased for the first time in nearly a decade *As of 3rd Quarter 2015. at the December 2015 meeting of the Federal Open Market Committee (FOMC). The increase was Source: Federal Reserve Board, Delta Associates; February 2016. just one quarter of a percent and will likely slow consumer spending and revolving credit somewhat, but will strengthen the dollar even further. Moving forward, the U.S. economy is poised to continue gaining strength through 2016 and beyond. Major economic indicators are moving in a positive direction, although wage growth, international trade, and economic turbulence in China and Europe remain areas of concern. The timing and size of additional increases to interest rates also bear watching over the coming year.

S2 | 19

The National Economy “ Payroll Job Growth Moving forward, the economy is United States | Year-Over-Year

poised to continue gaining strength 3,500 Private Sector Public Sector through 2016 and beyond. 3,000

2,500

“ 2,000 Now, for a look at major U.S. economic indicators: Payroll Jobs 1,500 S1 Job growth was robust throughout 2015 with the national economy adding 2.71 million new payroll 1,000 S2 jobs over the year. Nearly all job growth was in the private sector, with 2.6 million private jobs added

Thousands of New Payroll Jobs 500 S3 over the 12-month period. After several years of job reductions, public sector employment began to pick up in 2015, especially in the latter half of the year, with 110,000 new jobs added during the 0 5 5 5 5 S4 1 1 1 15 15 15 1 15 15 v. 14 . r. y e 15 ly . . t. v. c. year. The pace of public sector hiring is currently at its highest level since early 2010. ar n g ep e Oct. 14 No Dec. 14 Jan. 15 Feb. 15 M Ap Ma Ju Ju Au S Oc No D S5 Net monthly job growth for the last three months of 2015 averaged over 275,000 jobs; this resurgent Note: Data are not seasonally adjusted. S6 job growth has helped dispel concerns that the economic recovery was faltering after recording two Source: Bureau of Labor Statistics, Delta Associates; February 2016. consecutive months of net job additions below 200,000 in August and September. Month-to-month S7 gains (seasonally adjusted) from January to December 2015 has averaged approximately 221,000 S8 jobs per month: Payroll Job Growth S9 • October 2015: 307,000 United States | 12 Months Ending December 2015 • November 2015: 252,000 (Preliminary) S10 Education/Health • December 2015: 292,000 (Preliminary) Professional/Business Services Leisure/Hospitality The rebound in public sector hiring has been driven largely by the state and local government Retail Trade subsectors, though there has finally been some recent growth at the Federal level. Following 47 Financial Activities consecutive months of year-over-year declines, Federal employment increased in every month of Construction/Mining 2015 except for January. Transportation/Utilities State and Local Government Overall, the public sector has now added jobs (year-over-year) for 18 consecutive months after Other Services shedding jobs over the previous several years. Federal employment is expected to continue growing Wholesale Trade over the next couple of years, especially now that the Federal government finally approved a budget Information in November after five years of turmoil and continuing resolutions. The agreement increases Manufacturing discretionary spending by $80 billion over the next two years, and will go a long way towards Federal Government

easing uncertainty in economic sectors relying on Federal spending. 0 100,000200,000 300,000 400,000 500,000 600,000700,000 During the 12-month period ending November 2015 the top four sectors in job gains were Education/ Job Change

Health Services, Professional/Business Services, Leisure/Hospitality, and Retail Trade. These four sectors Note: Data are not seasonally adjusted. alone added about 2 million new jobs, accounting for 73% of net job growth. Job gains were positive Source: Bureau of Labor Statistics, Delta Associates; February 2016. across all major super sectors, and seven of the 13 sectors added at least 100,000 payroll jobs over the year. A healthy Professional and Business Services sector is especially important for commercial real estate markets, since these jobs typically boost both retail spending and office demand.

S2 | 20 The National Economy

Labor Force and Wages Unemployment Rate Overall, initial unemployment claims have steadily decreased since peaking in March 2009. As of United States | 1980 – 2015 the first week of January 2016 initial claims were 275,750, based on a four-week seasonally-adjusted moving average. This is 5.8% below the same week in 2015, and 27.2% below the 15-year average 12% of 348,794. Unemployment claims should continue to erode into 2016 as the nation approaches full employment and cyclical unemployment approaches zero. 10% The unemployment rate (seasonally adjusted) declined to 5.0% as of December 2015, down from 8% 5.6% one year earlier, and marking its lowest level since before the Great Recession. This decline occurred despite the labor force increasing 1.9% during the same time period. As the nation’s 6% economy has returned to a healthy state, unemployed persons are becoming more confident in S1 being able to find full-time jobs. The unemployment rate should continue to decline in 2016, but

Unemployment Rate 4% S2 at a slower rate, as the number of cyclically unemployed persons dwindles. U.S.

S3 An ongoing area of concern for the national economy is the national average hourly wage, which 2% has increased at a slow rate since the end of the recession. Over the past five years, the growth rate S4 of average hourly wages has hovered around 2.0%. Prior to the recession, from 2007 to 2009, the 0%

80 85 90 95 00 05 10 15 S5 hourly wage growth rate averaged 3.1%. This is a pressing issue for many aspects of the economy, including price levels and consumption patterns. Note: Seasonally adjusted; shaded bars represent recessions. S6 Source: Bureau of Labor Statistics, Delta Associates; February 2016. S7 “

S8 The unemployment rate should Average Hourly Earnings S9 continue to decline in 2016, but at a 12-Month Percentage Growth | 2007 – December 2015 S10 slower rate, as the number of cyclically 5% Average 2007-2009 = 3.1% “ unemployed persons dwindles. 4% 3% Average 2010-2015 = 2.0% There are multiple competing theories that may explain the weak wage growth. One is that slow growth in wages is an indicator that the jobs being created are in lower-paying industries. Even 2% if people are finding jobs, they are likely to be underemployed, meaning job seekers are taking 1%

jobs that are below the education and experience levels they have achieved. Another theory has 12-Month Percentage Growth to do with the changing composition of the workforce. The average age of workers has remained relatively constant over the last few years, which indicates that younger workers are entering the 0% workforce at a faster pace than other age cohorts. These younger workers tend to start with lower 2007* 2008 2009 2010 2011 2012 2013 2014 2015 salaries, which may partly explain depressed average wage growth. *Data available starting March 2007. Source: Bureau of Labor Statistics, Delta Associates; February 2016. A third theory is that, due to slow moving wage adjustments, known as “sticky” wages, firms could not adequately reduce wages to offset lower demand during the Great Recession, and we are witnessing a slow correction in wages or “pent-up wage cuts” as workers become more accepting of reduced nominal wages. Wage growth tends to be a lagging indicator of an economic recovery, and the current recovery has progressed much slower than most. The combination of low unemployment and continued employment growth should lead to stronger wage growth in 2016 and beyond.

S2 | 21 The National Economy

Employment Levels by Job Status United States | 2010 – 2015

4,000 Full-Time

3,000 Part-TIme 2,000

1,000

-1,000 S1 -2,000 S2 -3,000 S3 -4,000

S4 -5,000

S5 -6,000 0 1 2 3 4 5

S6 201 201 201 201 201 201

S7 Note: Data are seasonally adjusted. Source: Bureau of Labor Statistics, Delta Associates; February 2016. S8

S9 Number of Unemployed vs. Job Openings S10 12-Months Average Ending November 2015

Mining Information

Financial activities Number of Job Openings Transportation and utilities Number of Unemployed Other services Government Construction Manufacturing Education and health services Professional and business services Leisure and hospitality Wholesale and retail trade 0200 400600 8001,000 1,200 1,400 Thousands of Jobs

Note: Based on 12-month trailing average. Data are not seasonally adjusted. Source: Bureau of Labor Statistics, Delta Associates; February 2016.

S2 | 22 The National Economy

The past year has been an auspicious time for underemployed workers seeking full-time employment. As recently as 2011, the U.S. economy was adding more part-time than full-time jobs. Since 2014, GDP Percent Change though, the gap (seasonally adjusted) between full-time and part-time employment growth has United States | 2007 – 2015 grown along with the overall workforce. In August 2015, the gap between the 12-month net gain 6% in employment for full-time and part-time jobs reached a post-recession high of 4.03 million. The 20-Year Average = 2.4% gap narrowed somewhat in the fall, and was 2.69 million as of December 2015. Full-time positions 4% translate to more hours worked and higher paychecks. Recent trends in full-time employment seem 2% to also indicate that any negative effects of Obamacare on full-time hiring have been blunted by the need for more full-time workers. 0%

Another positive indicator is the declining job availability ratio — the relationship between potential -2%

S1 applicants and the number of jobs available. The national job availability ratio was 1.2 as of November -4% 2015, down from 1.6 in November 2014. The Professional/Business Services sector had the greatest Constant Dollars S2 number of job openings as of November 2015, with 1,074,000 jobs, and had the lowest job opening -6% Annual GDP Change in 2009 S3 ratio at 0.8, tied with the Education and Health Services sector. -8%

S4 Gross Domestic Product (GDP) -10% Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 S5 Real GDP growth for the 3rd quarter of 2015 was estimated at 2.1%, somewhat below the expected 07 07 08 08 09 09 10 10 11 11 12 12 13 13 14 14 15 15

growth rate of 2.7% for the quarter. GDP growth in 2015 was largely driven by consumer expendi- Note: Quarters are seasonally adjusted at annual rates. S6 tures, state and local government spending, and exports, but was held back by restrained inventory Source: Bureau of Labor Statistics, Delta Associates; February 2016. S7 accumulations by businesses. After starting 2015 on a sour note, with 1st quarter GDP coming in at a paltry 0.6%, GDP quickly recovered, recording a very healthy 3.9% growth rate in the 2nd quarter. S8 The economy shook off many of the weaknesses during 2015 including harsh weather, declining oil U.S. Corporate Pre-Tax Profits prices, a sell-off in international markets (mainly China), and accelerated appreciation of the dollar, S9 2008 – 2015 which sent net exports plunging. S10 $2.5 $120 Looking forward into 2016, strong consumer spending will continue to be the main engine of eco- Corporate Proﬁts nomic growth, but steady improvements in the housing market, Federal and state/local government S&P 500 12-Month EPS $100 spending, and business investments will move the economy forward as well. $2.0

The most recent report from the Federal Reserve Bank of Philadelphia’s Survey of Professional $80 Forecasters projects real GDP growth to be 2.8% in the 4th quarter of 2015 and 2.4% for all of 2015. $1.5 Looking further ahead, real GDP is predicted to average 2.6% in 2016, 2.5% in 2017, and 2.8% in 2018. $60

$1.0 Corporate Profits $40

U.S. corporate profits totaled $2.06 trillion during the 3rd quarter of 2015 on an annualized basis, S&P 500 12-Month EPS Corporate Proﬁts in Trillions $0.5 down very slightly from $2.08 trillion in 2nd quarter of 2015 and from $2.20 trillion in the 3rd quar- $20 ter of 2014. Corporate profits have largely plateaued in recent years as more companies are taking a $0.0 $0 cautious approach of buying back shares and slowly increasing dividends. Companies are continu- 2008 2009 2010201120122013 2014 2015* ing to weigh options on how to best deploy earnings and profits and, in many cases, are showing Note: *Through Sept. 2015, seasonally adjusted at annual rates. Yearly data are not seasonally adjusted. a preference for mergers and acquisitions over riskier, capital intensive projects that could rock the EPS reflect operating earnings as of Sept. 2015. boat for shareholders. However, the recent increases in hiring indicate that corporate leaders are Source: Bureau of Economic Analysis, Standard and Poor's, Delta Associates; February 2016. becoming more confident about consumer demand.

S2 | 23 The National Economy

Housing Market Annual Change in Existing Home Sale Prices Home prices in the 20 major metro areas covered by S&P/Case-Shiller increased 5.5% during the United States | 2008 – 2015 12 months ending October 2015, the most recent data available. This is up from the September 2015 figure of 5.4%. The growth rate of home prices largely stabilized in 2015 as expanding 20% inventories of homes for sale in many metro areas eased pricing pressure. With an interest rate 15%

hike just implemented, mortgage rates will almost certainly see a corresponding increase. However, 10% we expect the housing market to continue to flourish into 2016 with increased construction and 5% higher sales prices. 0%

According to the National Association of Realtors, the annualized pace of existing home sales -5%

decreased to 4.8 million (preliminary) in November 2015, down from 5.0 million in November 2014. -10% S1 The average existing home sales price was $263,900 (preliminary) in November 2015, up 4.0% from

of Single-Family Homes -15% S2 $253,800 in November 2014. -20% Percent Change For Median Price S3 The Federal Budget -25% 2008 2009 2010 2011 2012 2013 2014 2015 S4 The Federal budget deficit for the 2015 fiscal year was $439 billion (2.5% of GDP)--the lowest level since FY 2007, and below the 40-year average. The budget shortfall in FY 2015 marked the sixth Note: Data reflect 20-city composite index. S5 Source: S&P/Case-Shiller, Delta Associates; February 2016. consecutive year that the deficit’s share of the GDP has decreased since peaking at 9.8% in 2009. S6 The smaller deficit is attributed to greater than anticipated tax revenues from businesses and households as a result of the improving economy. In spite of this progress, the U.S. is still running a deficit S7 – we are not paying down our debt, we are just increasing it at a slower rate. U.S. Existing Home Sales vs. Sales Price

S8 After years of political wrangling Congress finally passed a budget bill in the 4th quarter of 2015, 2006 – 2015 which was signed by President Obama in November. The budget brought an end (at least for the S9 6,500 $280,000

short term) to the ongoing drama of impending Treasury defaults, Federal government shutdowns, Number of Existing Home Sales** S10 and forced continuing resolutions. Federal discretionary spending caps were raised by $80 billion 6,000 Average Existing Home Sales Price $270,000 over the next two years and provide $32 billion in overseas contingency funds to the Pentagon. $260,000 5,500 “ $250,000 5,000 $240,000 While the budget deal provides 4,500 $230,000 Number of Sales - Average Sales Price Thousands of Units 4,000 some fiscal stability over the next $220,000 couple of years, there are still many 3,500 $210,000 3,000 $200,000 long-term concerns. 2006 2007 2008 2009 2010 2011 2012 201320142015* “ *Data as of November 2015. **Seasonally adjusted annual sales rate. Source: National Association of Realtors, Delta Associates; February 2016. While the budget deal provides some fiscal stability over the next couple of years, there are still many long-term concerns. Without action, the deficit would reach $1.0 trillion by 2025, with growth driven by an aging population, rising health care costs, an expansion of Federal subsidies for health insurance, and growing interest payments on the Federal debt. The national elections of 2016 could have a major impact on the long-term picture as well, since the outcome could lead to profound changes in Federal taxation and spending policies.

S2 | 24 The National Economy

Interest Rates and Inflation Baseline Budget Projections There had been a great deal of discussion throughout 2015 about when the Fed would increase United States | 2015 – 2025 the Federal Funds Rate, and by how much. Stock market woes on Wall Street brought about by a faltering Chinese economy and extremely low oil prices led the Federal Open Market Committee to 0 4.5%

decline to raise rates at its September meeting. The somewhat disappointing August and Septem- 4.0% ber job growth numbers furthered the rumor that any interest rate hike would be pushed into 2016. -200 3.5% However, revitalized job growth in October and November, and consumer price increases, provided the FOMC with the confidence to implement a slight, 0.25% increase in the Federal Funds Rate -400 3.0% target at the December 16 board meeting. The rate hike, which was nearly universally anticipated, 2.5% -600 is the first since the recession. 2.0% S1 In addition to the December 2015 interest rate increase, the Fed has also indicated its intention to -800 1.5% enact further incremental increases to interest rates in 2016. Still, interest rates have been at histori-

S2 Deﬁcit as a % of Real GDP

Federal Deﬁcit ($ Billions) 1.0% cally low levels, so the expected modest increases will keep long-term interest rates relatively low. -1,000 S3 Deﬁcit % of GDP 0.5% Global financial markets are expected to experience continued volatility in the short-term, at least S4 -1,200 0.0% until uncertainty surrounding the Chinese economy, and the Chinese government’s corrective 2015 2016 2017 2018 2019 2020 20212022 20232024 2025 measures, diminishes. Sudden swings in commodity prices and exchange rates also remain a con- S5 Baseline budget projections as of August 2015. cern. Sectors that have benefited from record-low borrowing rates will experience the most market Source: Congressional Budget Office, Delta Associates; February 2016. S6 volatility. Commercial real estate and the REIT sphere are experiencing downward pressures as the S7 market accounts for higher costs of capital, though REITs with solid property fundamentals should be able to weather the storm. As of the end of trading on January 12, 2015, the S&P 500 index stood Selected U.S. Government Interest Rates S8 at 1938.68, down about 4% over the previous 12 months. The Index reached a 2015 high of 2130.82 2000 – 2015 S9 on May 21, up 13% over 12 months. 7% S10 Inflation remained flat during the 12 months ending November 2015, with a strong dollar and Effective Federal Funds Rate lower domestic energy prices keeping prices in check. This is well below the Fed’s benchmark of a 10-Year Treasury 2.0% increase, which had been a contributing factor to the delay in raising the Federal Funds Rate. 6% The personal consumption expenditure price index (PCEPI), which takes into account changes in 30-Year Treasury 5% consumption habits as people substitute some goods and services for others, rose 0.4% during

the 12 months ending November 2015. We expect inflation to be contained in the near-term due 4% to modest wage growth and a strong dollar, coupled with the fact that price pressure tends to lag economic growth by a year or more. Given these conditions, inflation will likely remain in the 0.5% 3% to 1.0% range on an annualized basis through 2016. Interest Rates (%) 2% Economic Outlook 1% The national economic recovery continued in 2015, with most of the damage done by the Great

Recession now in the rear view mirror. GDP growth is projected to be 2.8% in the 4th quarter and 0% 2.4% for all of 2015. 0 7 8 9 010 200 2001 2002 2003 2004 2005 2006 200 200 200 2 2011 2012 2013 2014 2015 Over the past couple of years the economic recovery has been fueled by healthy employment Data are non seasonally adjusted monthly averages. 30-Year Treasury not issued between growth. All major employment sectors have experienced strong job growth, with the high-wage March 2002-Dec. 2005. Professional/Business Services sector leading the way. The unemployment rate steadily declined Source: Federal Reserve Economic Data (FRED), Delta Associates; February 2016. by 60 basis points over the 12 months ending December 2015, and the national economy is now approaching the point of full economic employment. We expect that the sustained health of the employment market will lead to improvements to the housing and retail markets in 2016.

S2 | 25 The National Economy

Despite the generally good economic news in 2015, the current recovery has shown a few areas of weakness. The primary area of concern is the lack of significant wage growth, stemming from U.S. Inflation and Personal Consumption Expenditure Index job growth in lower-paying sectors and limited competition for quality workers. We expect 2016 to 1980 – 2015 bring improvement in this area, as the pool of unemployed workers looking for jobs continues to dry up and employers increase compensation to attract the best qualified personnel. 16% CPI-U Another major concern moving forward in 2016 is international trade. China, one of the largest U.S. 14% trading partners, is in the midst of a considerable economic slowdown which will likely be a drag on 12% PCEPI

U.S. net exports – bad economic news from China has already caused significant of economic turbu- 10% lence in the first weeks of 2016. In addition, a strong U.S. dollar which saw virtually zero inflation in 8% 2015, will also hurt the nation’s trade balance. We do expect inflation to return modestly, especially

6% S1 since energy prices have likely hit bottom. 4% S2 Overall, 2016 will bring another year of sustained, but modest economic growth. The national Percentage Change economy will expand and add jobs over the next year, but growth will continue to be slower than 2% S3 “ in past economic recovery cycles. 0%

S4 -2% 80 85 90 95 00 05 10 15* S5 Overall, 2016 will bring another year Note: *CPI-U and PCEPI through November 2015. Data reflects 12-month percentage change. S6 Source: Federal Reserve Economic Database (FRED), Delta Associates; February 2016.

S7 of sustained, but modest economic

S8 growth. U.S. Payroll Job Growth

S9 year job change % change S10 “ 2015 2,707,000 1.9% Specifically, we believe the economic outlook is as follows: 2014 2,649,000 1.9% • Real GDP growth: 2.6% in 2016. 2013 2,289,000 1.7% • Payroll jobs: 2.75 million added in 2016. 2012 2,262,000 1.7% • Housing: Price appreciation around 5.5% to 6.0% in 2016. 2011 1,567,000 1.2% • Unemployment rate: 4.6% at end of 2016. 2010 -958,000 -0.7% 2009 -5,937,000 -4.3% • Federal Funds Rate: At least one incremental increase in 2016, following the 0.25% increase 2008 -766,000 -0.6% in December 2015. 2007 1,538,000 1.1% • Long-term interest rates: Edging higher during 2016, particularly short-term rates, following 2006 2,393,000 1.8% the Federal Funds Rate increase. Long-term interest rates will only increase very modestly. 2005 2,256,000 1.7% • Inflation: 1.5-2.5% for 2016 as consumer demand continues to strengthen, but fuel costs 2004 1,431,000 1.1% remain low. 2003 -310,000 -0.2% National Payroll Job Growth Summary 2002 -1,446,000 -1.1% The U.S. economy gained 2.65 million payroll jobs over the 12 months ending November 2015, Note that BLS has rebenchmarked figures since their initial publication; the figures presented above are the most recent estimates. virtually unchanged compared to all of 2014. This compares to the 25-year annual average of 1.2 Source: Bureau of Labor Statistics, Delta Associates, February 2016. million jobs at a 1.0% average growth rate.

S2 | 26 The National Economy

12-Month Payroll Employment Change Through November 2015

job change job change

METRO AREA # % METRO AREA # % New York 167,000 1.8% Denver-Boulder 36,600 2.7% LA Basin Portland (OR) 36,500 3.3% Los Angeles/Long Beach/Glendale 73,200 1.7% Austin 36,100 3.9% Orange County (Santa Ana/Anaheim/Irvine) 39,000 2.5% Charlotte 35,500 3.3% Riverside/San Bernardino/Ontario 46,100 3.5% San Antonio 35,300 3.7% S1 Total LA Basin 158,300 2.2% Philadelphia 34,500 1.2% San Francisco Bay Area Detroit (Detroit/Warren/Livonia) 33,800 1.8% S2 San Jose/Sunnyvale/Santa Clara 52,300 5.1% Baltimore 31,600 2.3% S3 San Francisco/San Mateo/Redwood City 42,200 4.1% Minneapolis-St. Paul 30,700 1.6% S4 Oakland/Fremont/Hayward 18,100 1.7% Indianapolis 30,100 3.0%

S5 Total Bay Area 112,600 3.6% Nashville 26,900 3.0% Dallas/Ft. Worth 101,200 3.0% Sacramento 24,400 2.7% S6 Atlanta 86,500 3.4% Houston 23,700 0.8% S7 Washington, DC 61,900 2.0% Salt Lake City 23,400 3.5% S8 Seattle 55,100 2.9% Las Vegas 23,100 2.6% South Florida Columbus (OH) 21,700 2.1% S9 West Palm Beach/Boca Raton 12,800 2.2% Cleveland 18,700 1.8% S10 Fort Lauderdale 27,000 3.4% Raleigh-Durham 18,300 2.2% Miami/Miami Beach/Kendall 18,100 1.6% Cincinnati 16,800 1.6% Total South Florida 57,900 2.3% Jacksonville 16,300 2.6% Phoenix 49,600 2.6% Kansas City 12,300 1.2% Boston (Metropolitan NECTA) 47,900 1.8% Pittsburgh 12,000 1.0% Chicago 47,000 1.0% Oklahoma City 10,700 1.7% Tampa-St. Petersburg 40,500 3.3% St. Louis 9,700 0.7% Orlando 39,900 3.5% Memphis 5,300 0.8% San Diego 37,800 2.7% New Orleans (1,700) -0.3%

Note: Data are not seasonally adjusted. Source: Bureau of Labor Statistics, Delta Associates; February 2016.

S2 | 27 S3 | The Washington Area Economy

S10 The Washington Area Economy

The Washington Area Economy 2015 Highlights RESURGENT ECONOMY PRODUCES STRONGEST JOB GROWTH IN A Payroll Employment: 3.2 million at November 2015. DECADE, BUT IS ENTERING A PERIOD OF TRANSITION Job Change: Increased 61,900 during the 12 months ending November 2015. Compares to 36,500 in the 12 months The Washington area’s economy performed very well in 2015, with most economic indicators ending November 2014. showing positive trends. Job growth has been particularly strong, with 61,900 net job additions Unemployment Rate: 4.1% at November 2015, down from during the 12-month period ending November 2015, and year-end employment growth figures are 4.6% one year ago, one of the lowest among the nation’s expected to show the region’s strongest job growth in a decade. The private sector has been the pri- largest metro areas. mary source of job growth as it gains influence on the regional economy, but Federal employment S1 and procurement have stabilized after several years of declines. The Professional/Business Services Inflation: Prices increased 0.6% during the 12 months ending S2 and Education/Health sectors led the region in job creation, adding 36,400 jobs combined between November 2015. November 2014 and November 2015. Housing Prices: Increased 2.1% during the 12 months ending S3 The region’s labor market is also doing well, with the unemployment rate continuing to decline September 2015. S4 even as the labor force expands. The regional unemployment rate as of November 2015 was 4.1%, S5 well below the national average of 5.0%. One area of concern is the region’s average wage, which Source: Bureau of Labor Statistics, S&P/Case-Shiller; February 2016. is down substantially from its 2010 peak. Wages are likely to begin increasing in 2016, though, as S6 growth has resumed in the metro area’s Professional/Business Services sector, which has by far the S7 highest average wage among the region’s top employment sectors. The recent passage of a Federal

budget has removed a major source of short-term uncertainty and should help bolster the region’s S8 economic growth prospects. As economic output and labor demand increase, competition among

S9 firms for top talent will also drive wage growth.

S10 The Washington metro area’s “ economy performed very well in 2015, with most economic indicators “ showing positive trends.

The Washington metro is still an attractive place to do business, visit, and live. A recent Washington Business Journal article documented how Washington sits at or near the top of many “top 10 best cities” lists covering a range of factors, including: growth in STEM employment (science, technology, engineering, math), women in technology, energy efficiency, walkability, gender pay equity, and job opportunities for young professionals. With the region’s fundamentals now back on track as well, all indicators point to sustained economic growth over the next five years.

S3 | 29 The Washington Area Economy

Payroll Jobs Payroll Job Growth Following two weak years, 2015 brought a return to strong job growth for the Washington metro Washington Metro Area | 1994 – 2015 area economy, mirroring national trends. During the 12 months ending November 2015, the metro area added an impressive 61,900 new payroll positions, well above the 20-year annual average of 140

41,800. Looking ahead to 2016, we expect job growth in the Washington metro area to continue at a 120 pace similar to what it did in 2015. With 3.2 million payroll jobs, the Washington metro area ranks as 100 20-Year Annual Average = 41,800/Year the fifth largest job market, behind only New York, the LA Basin, Chicago, and Dallas/Ft. Worth. 80

The Washington area’s rebound in 2015 was due in part to a surging national economy – most of the 60 major metro areas also recorded healthy job growth over the year. The New York metro area led the 40 nation in total job growth in during the 12 months ending November 2015, followed by the LA Basin S1 and San Francisco Bay metro areas. During this time period, the Washington metro area ranked sixth 20 (Annual Average) S2 in the nation in terms of net job growth. The Professional/Business Services and Education/Health 0 sectors were the leading sources of job growth in most metro areas in 2015, including Washington. -20 S3 Thousands of New Payroll Jobs Payroll Jobs by Sector -40 S4 -60 The top four sectors for job growth in the Washington metro area in the 12 months ending 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15* S5 November 2015 were Professional/Business Services, Education/Health, State/Local Government, *12 months ending in November 2015. S6 and Construction. These sectors alone accounted for a net gain of 50,900 jobs, representing more Source: Bureau of Labor Statistics, Delta Associates; February 2016. than three-fourths of the total employment increase. The most positive development in 2015 was S7 in the Professional/Business Services sector, which rebounded from a net job loss in 2014 to reclaim S8 its place as the primary driver of job growth in the metro area. This is significant for the regional Payroll Job Growth economy since jobs created in the Professional/Business Services sector tend to pay well and S9 Selected Large Metro Area | 12 Months Ending November 2015 increase demand for office space. S10 Another notable trend in 2015 was the modest gain in Federal Government employment. This 180,000 sector shed jobs each year from 2011 and 2014 due to Federal budget reductions, so the increase, 160,000

however slight, is an indication that the recent period of Federal turmoil has been resolved – at least 140,000 until the 2016 election. The only major sector to shed jobs over the year was Retail Trade, which is 120,000 one of the region’s lowest-paying sectors. 100,000 The stronger performance in the Washington metro area’s job market has been influenced by a steadily growing private sector share of the regional economy. The private sector has been re- 80,000 61.9 sponsible for the vast majority of the job growth in the Washington region over the past two years, 60,000

although the waning effects of Federal budget cuts have helped. The bump in Federal employ- 40,000

ment growth, the recently approved Federal budget, and growing state and local budgets point to Thousands of New Payroll Jobs 20,000 a brighter future for public sector employment, but the majority of job growth will continue to be sourced from the private sector. 0 NY LA SF BayDFW AtlWas South PhxBos ChiDenverHou Basin FL

Source: Bureau of Labor Statistics, Delta Associates; February 2016.

S3 | 30 The Washington Area Economy

Trends in Employment by Major Sector Payroll Job Growth Washington Metro Area | Washington Metro Area 12 Months Ending November 2015

November 12-month 20-Year Annual 2015 change Average Professional/Business Services Education/Health Professional/Bus. Svcs. 735.3 24.9 15.6 State and Local Government Education/Health 427.8 11.5 9.1 Construction/Mining State and Local Govt. 344.2 8.3 4.1 Leisure/Hospitality Other Services Construction/Mining 157.4 6.2 1.7 62,100 Transportation/Utilities Leisure/Hospitality 304.5 4.2 5.6 Federal Government S1 Other Services 197.4 2.8 3.6 Financial Activities Wholesale Trade S2 Transportation/Utilities 66.8 2.5 -0.1 Information S3 Federal Government 364.8 1.4 0.6 Manufacturing Financial Activities 151.5 0.1 1.0 Retail Trade -200 S4 Wholesale Trade 63.3 0.1 0.0 -5,000 1,0007,000 13,000 19,00025,000 S5 Information 76.2 0.1 -0.3 Job Change

S6 Manufacturing 50.0 0.0 -1.0 Source: Bureau of Labor Statistics, Delta Associates; February 2016. Retail Trade 281.4 -0.2 1.9 S7

Total 3,220.6 61.9 41.8 S8 Note: In thousands of payroll jobs. Data are not seasonally adjusted. Unemployment Rate Source: BLS, Delta Associates; February 2016. S9 Large Metro Areas | November 2014 vs. November 2015 S10 “ 8% November 2014 November 2015 7% The Washington metro area, along National Rate* 6% with most other major metro 5.8% 5% 5.0%

areas, saw a marked decline 4% in unemployment in 2015. 3% “ Unemployment Rate 2%

1% Unemployment Rate 0% DenSF BayDFW BosWas NY HouPhx S FlaAtl LA Chi The Washington metro area, along with most other major metro areas, saw a marked decline in Basin Basis Point - unemployment in 2015. Although it maintained the lowest unemployment rate among the nation’s Change 70 -100 -40 -50 -50 -110 60 -60 -60 -120 -200 -60 large metro areas during the recent recession, the Washington metro area now has the fifth lowest unemployment rate among its peer group. Still, the region’s unemployment rate has declined *Seasonally adjusted. Source: Bureau of Labor Statistics, Delta Associates; February 2016. steadily from its post-Recession peak of 7.1% and its November 2014 level of 4.6% to just 4.1% in November 2015. This compares favorably with the national (seasonally adjusted) rate of 5.0% as of November 2015, which is also down substantially from its November 2014 level of 5.8%. We expect the Washington metro area’s unemployment rate to hover around 4.0% during 2016.

S3 | 31 The Washington Area Economy

Regional Consumer Price Index Consumer Price Index (CPI) Overall inflation was relatively flat in the Washington/Baltimore region in 2015, but it ticked upward Washington/Baltimore Region | 2009 – 2015 toward the end of the year as the economy grew. During the 12 months ending November 2015, prices in the metro area increased 0.6%, which was higher than the national inflation rate of exactly 5% 0.0% over the same period, but still minimal. Both the regional and national rates are far below the 4% 2.0% rate that the Federal Open Market Committee (FOMC) targets. The marginal increase in the 10-Year Annual Average = 2.6% regional inflation rate was driven by a 1.8% increase in the cost of housing and 5.6% increase in the 3% cost of medical care, but these were offset by a 7.0% decline in transportation costs. Low oil prices

and a strong dollar are holding back significant gains in the CPI, but this will likely change over the 2% long term. We expect inflation to pick up slightly in 2016 as the economy grows. Wage growth in the S1 coming years will also cause inflation to pick up. 1%

S2 Housing Prices 0% Annual Price Index Change S3 Home prices increased 2.1% (seasonally adjusted) in the Washington metro area during the 12 -1% months ending September 2015, according to the S&P/Case-Shiller Home Price Index. This com- S4 pares to a growth rate of 5.5% for the 20-City MSA Composite Index. The region’s price growth has -2% 2009 2010 2011 2012 2013 2014 2015 S5 been hampered by a growing inventory of homes for sale and a shift in market share toward condominium units, which priced lower than single-family units. Looking ahead, sustained job growth Note: Data is 12 months ending in each period, through November 2015. S6 should drive increased housing prices over the next few years. Source: Bureau of Labor Statistics, Delta Associates; February 2016. S7

S8 Percent Change in House Prices S9 Washington MSA vs. U.S. 20 MSA Composite | 2001 – 2015

S10 25%

20% Washington MSA U.S. 20 MSA Composite 15%

10%

Percent Change -5%

-10%

-15%

-20% 2001 2002 2003 2004 2005 2006 2007 20082009 2010 20112012 2013 2014 2015

Note: Seasonally adjusted. Source: S&P/Case-Shiller, Delta Associates; February 2016.

S3 | 32 The Washington Area Economy

Region’s Core Industries Share of GRP The Gross Regional Product (GRP) for the Washington metro area is expected to reach $501.7 billion Washington Metro Area | 2015 Projections in 2015 – a 5.5% increase from the estimated $475.5 billion in 2014. While the Federal government remains the largest contributor to the Washington area economy, its share of spending is shrinking. Federal government spending currently accounts for approximately 35% of GRP. By 2020, we expect this share to fall to 27%, as private sector economic growth will accelerate while Federal spending will Federal Government remain relatively flat. A major share of Federal spending in the metro area economy is from procurement – the gov- 34% 35% Technology ernment’s purchase of goods and services from the private sector. After three years of declines, Building Industry total procurement spending in the Washington metro area (measured by place of performance) $502 S1 Int'l Business increased 3.0% during 2014 (compared to revised 2013 data), to roughly $71.2 billion (in 2014 Billion S2 dollars). This represents 45% of all Federal funds flowing into the area economy. Since these dollars Health/Education drive private sector investment and job growth, they have a much greater secondary economic S3 impact than do dollars spent on Federal payroll. Hospitality 3% S4 As with direct Federal employment, the stabilization of Federal procurement has been a major factor Other 5% in the region’s economic rebound during 2015. Contractors are finally adjusting to the new eco- S5 5% 15%

nomic environment in the region, which now depends more strongly on the private sector than the 5% S6 public sector. Growth in Professional/Business Services – by far the region’s largest economic sector S7 – bodes extremely well for continued forward momentum in the regional economy in 2016. Source: George Mason University Center for Regional Analysis, U.S. Conference of Mayors, Delta Associates;

February 2016. S8

S9 “ Annual Change in Federal Procurement Spending S10 We estimate that an annual average Washington Metro Area (Current Dollars)

of 54,500 payroll jobs will be added 25% 15-Year Annual Average = 6.1% to the Washington metro area 20% economy during the five-year 15% “ 10% period from 2016 to 2020. 5%

0% The Education/Health Services sector has stayed on its long-term growth trajectory: it was the only -5% non-government sector in the region to gain jobs during the Great Recession, and it has continued Percent Change in Spendin g to post strong employment gains throughout the recovery. The impact of this sector’s growth is -10% blunted by the fact that most of its growth has occurred in lower-wage occupations, though. This -15% is also a concern for two other sectors: Retail Trade and Leisure/Hospitality. 2000 2001 2002 2003 2004 20052006 20072008 2009 2010 20112012 2013 2014* *Projected Source: George Mason University Center for Regional Analysis, Delta Associates; February 2016.

S3 | 33 The Washington Area Economy

Washington Area Economic Outlook: A Region in Transition Payroll Job Growth After experiencing slow and inconsistent growth between 2011 and 2014, the Washington metro Washington Metro Area area finally experienced a sustained economic expansion in 2015 – we expect this positive trend to continue through 2016 and beyond. Net job growth improved from 36,500 during the 12 months 140 District Sub. MD No. Virginia ending November 2014 to a solid 61,900 for the 12 months ending November 2015. We expect fu- 120 5-Year Projected Average = 54,500/Year ture years to bring more gains, with 66,400 new jobs expected in 2016 and 57,800 in 2017. Although 100 20-Year Annual Average = 41,700/Year employment growth is expected to slow somewhat in 2018 and beyond, the five-year forecast of 80 54,500 net new jobs per year represents a higher level of growth than the region has experienced 60 since the middle of the last decade. 40

This expansion cycle will necessarily be driven by the region’s private sector. The region’s business 20 S1

community and elected leaders have correctly identified that Federal employment and contracting (Annual Average) 0

S2 can no longer be relied upon to drive economic growth, although the heavy Federal presence in the -20

region will continue to provide economic stability and shield the area from the worst effects of any Thousands of New Payroll Jobs -40 S3 national or global economic downturns. -60 S4 Private sector job growth will in turn depend on expanding businesses already located in the region 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 S5 rather than businesses lured from outside the region. The Washington area’s high wages, property Source: Bureau of Labor Statistics, George Mason University Center for Regional Analysis, Delta Associates; costs, and taxes put the region at a competitive disadvantage for attracting companies that are February 2016. S6 looking for low-cost places to do business. Efforts to build on the region’s native assets – a highly

S7 skilled workforce, access to international markets, high quality education, and vast cultural resources – should drive strong employment growth in the Professional/Business Services sector. Growth in this S8 sector will both increase demand for commercial space and create additional jobs in the Education/

S9 Health, Retail Trade, Leisure/Hospitality, and Construction sectors.

S10 The region will need to respond to “ profound changes in the global economy, security, the climate, “ demographics, the housing market, and other factors.

The passage of a Federal budget and related appropriation bills at the end of 2015 is critical to the Washington metro area’s economy. Moving forward into 2016, the regional economy is entering a period of transition. While the Federal government’s role in the economy is expected to remain stable, its influence on the regional economy continues to wane. The region will need to respond to profound changes in the global economy, security, the climate, demographics, the housing market, and other factors. These factors are already reshaping business and real estate in the region and will continue to do so over the next several years.

S3 | 34 S4 | The Washington Area Office Market

S10 The Washington Area Office Market

The Washington Area Office Market

This section of TrendLines was prepared by Transwestern’s in-house research team OFFICE MARKET TURNS THE CORNER IN 2015; VACANCY RATE DECLINES FOR THE FIRST TIME SINCE 2010

On balance, we believe that the Washington metro area office market finally turned the corner in 2015, and is beginning a period of sustained improvement on the heels of several subpar years. During 2015 net absorption totaled 1.9 million SF and the overall vacancy rate declined 40 basis S1 points during the year — the first decline in the vacancy rate since 2010. Despite these improv- S2 ing conditions, rents remain under pressure and declined 0.5% during 2015, as the vacancy rate remains elevated. However, the pace of decline eased during the year, as generous concession

S3 packages leveled off. S4

S5 S6 We believe performance funda- S7 mentals will continue to improve “ S8 during 2016, as the economy S9 strengthens and tenants become S10 “ more certain about the economic outlook.

We believe performance fundamentals will continue to improve during 2016, as the economy strengthens and tenants become more certain about the economic outlook. Rental rate momentum will appear in some submarkets in 2016, with metro-wide growth slightly positive and below average. There are limited blocks of new Class A space on the market. Given the flight to quality, the pipeline of new or renovated product could expand during 2016. National Context At 421 million SF of private office space, the Washington metro area is the 3rd largest office market in the nation, behind New York and Los Angeles. Net absorption of office space in the Washington metro area totaled positive 1.9 million SF during 2015. The San Francisco Bay, Dallas/Ft. Worth, and Houston markets were leaders in net absorption during 2015.

S4 | 36 The Washington Area Office Market

The Washington area’s overall vacancy rate is 14.2% at year-end 2015, down from 14.6% one year ago. Still, the Washington metro has the highest overall vacancy rate among large metro areas in the Largest U.S. Office Markets United States. The San Francisco Bay and Boston metro areas have the lowest vacancy rates at 6.2% Selected Metro Areas | 2015 and 8.4%, respectively. 1,000

900

800 2015 Highlights 700

Net absorption: Positive 1.9 million SF during 2015, compared to negative 1.2 million SF 600

during 2014. The flight to quality continues: 2.1 million SF of Class A/Trophy space was 500 absorbed in 2015. 421 S1 400 Overall vacancy rate: 14.2%, down from 14.6% one year ago. Compares to 10.6% 300 S2 national rate. Inventory (Millions of SF ) 200 S3 Direct vacancy rate: 13.5%, down from 13.8% one year ago. 100 S4 0 Pipeline (U/C and U/R): 7.8 million SF, down from 5.4 million SF one year ago. NY LA Basin WasChi BosSF BayPhilDFW HouAtl S5 Pipeline pre-lease rate: 50%, compared to 38% one year ago. Source: CoStar, Transwestern; February 2016. S6 Effective rents: Effective rents: Down 0.5% during 2015, compared to a decline of 4.1% S7 during 2014. Office Net Absorption S8 Investment sales: $6.2 billion ($355/SF) during 2015, compared to $5.8 billion ($392/SF) during 2014. Selected Metro Areas | 2015 S9 12 S10 Net Absorption 10

Net absorption in the Washington metro area totaled positive 1.9 million SF during 2015, compared 8 to negative 1.2 million SF during 2014. This compares to the 15-year average annual absorption of 3.6 million SF. 6 Each substate area within the Washington metro area had positive net absorption during 2015, with the District of Columbia leading the way. The region’s positive absorption was driven by a handful 4 of pre-leased deliveries and healthy leasing activity. For example, the Department of Justice signed

Net Absorption (Millions of SF) 1.9 a 336,000 SF deal at 175 N Street, NE in NoMa. In addition, MRP Realty delivered 111,000 SF at 900 2 G Street, NW in the East End, which was 46% pre-leased at delivery to Simpson Thacher & Bartlett and Herman Miller. 0 SF BayDFW HouBos LA BasinNYAtl ChiPhilWas Net absorption was offset during 2015 by a handful of move-outs, including: Freddie Mac vacated

217,000 SF at 8000 Jones Branch Drive in Tysons, LMI vacated 235,000 SF at 2000 Corporate Ridge Source: CoStar, Transwestern; February 2016. Road in Tysons, and NIH vacated just over 150,000 SF at 6610 Rockledge Drive in North Bethesda.

S4 | 37 The Washington Area Office Market

Office Vacancy Rates Selected Metro Areas | Year-End 2015

16% 14.2% 14% National Vacancy Rate: 10.6%

12%

10%

8% S1 6% S2 Overall Vacancy Rate 4% S3 2% S4 0% S5 SF BayBos NY Phil LA BasinChi AtlHou DFWWas

S6 Source: Transwestern; February 2016.

S8 Office Net Absorption S9 Metro Washington Area | 2000 – 2015 S10 18,000 16,000 14,000 12,000 10,000 15-Year Annual Average = 3.6 Million SF 8,000 6,000 4,000 2,000 0 Net Absorption (Thousands of SF) -2,000 -4,000 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15

Source: Transwestern; February 2016.

S4 | 38 The Washington Area Office Market

Tenants continue to favor Class A space, but the gap between Class A and Class B/C space narrowed in 2015. Net absorption of Class A space totaled 2.1 million SF during 2015, compared to negative Office Net Absorption 151,000 SF in the Class B/C market. During 2014, Class A absorption totaled 2.1 million SF and was Washington Metro Area | 2015 offset by negative absorption of 3.3 million SF of Class B/C space. 900 Throughout this cycle the market’s newer buildings have significantly outperformed older properties. 800 Between 2009 and 2015, the net absorption of space in buildings less than 15 years in age was positive 23 million SF, which buildings more than 15 years old suffered negative net absorption of 700 15 million SF. 600

500

400 S1 Net Absorption of Office Space 300 S2 Washington Metro Area | 2014 vs. 2015 | Thousands of SF 200 Market 2014 2015 S3 Net Absorption (Thousands of SF) 100 Northern Virginia (376) 464 S4 0 Suburban Maryland (1,132) 634 Northern Virginia Suburban Maryland District of Columbia S5 District of Columbia 271 841 Source: Transwestern; February 2016.

S6 Washington Metro Area (1,237) 1,939

S7 Source: Transwestern; January 2016. Office Net Absorption by Class of Space

S8 Washington Metro Area | 2009 – 2015 S9 Tenants continue to favor Class A 25,000 S10 “ space, but the gap between 20,000 15,000

Class A and Class B/C space 10,000 narrowed in 2015. 5,000 “ 0 District of Columbia -5,000 Suburban Maryland -10,000 Northern Virginia

Net Absorption (Thousands of SF) -15,000 Leasing Activity -20,000 Built 15 Years or Younger Built Over 15 Years Leasing activity in the Washington metro area increased during 2015, bolstered by some of the larg- Source: Transwestern; February 2016. est deals in this cycle. Notably, leasing by the Federal government increased to 15% of the total SF leased during 2015, up from 5% during 2014. Major GSA leases during 2015 included: the Depart- ment of Defense renewing 912,000 SF at 2530 Crystal Drive and 2521 S. Clark Street in Crystal City/ Pentagon City and the Department of Justice signed for 336,000 SF at 175 N Street, NE in NoMa. While 2015 was a better year than 2014, the Federal share of total leasing activity still remains well below its 10-year average of 22%.

S4 | 39 The Washington Area Office Market

Leasing activity from GSA could pick up during 2016, as several potential leases are waiting for approval from Congress. However, we expect leasing will remain below average as Congress Office Leasing continues to force densification measures on agencies requesting office space. Washington Metro Area | Federal Government vs. All Others

There are 1,160 buildings with contiguous blocks of available space that are 10,000 SF or greater at 100% December 2015, level compared to 1,161 one year ago. Just over half of the total blocks are located Balance in Northern Virginia. There are 142 buildings with blocks of space available over 100,000 SF, down 80% Federal

from 150 buildings one year ago. The number of large blocks decreased in Northern Virginia and Suburban Maryland, but increased slightly in the District of Columbia. 60% 10-Year Average = 22% “ 40% 65% 45% S1 20%

Leasing activity in the Washington Percentage of Office Leasing 26% 15% 15% S2 9% 0% 5% metro area increased during 2015, 2009 2010 2011 2012 20132014 2015 S3 Gross Leasing Activity (SF) 26.2 M 31.4 M 34.8 M32.6 M 32.9 M 28.7 M 30.9 M S4 bolstered by some of the largest Source: CoStar, Transwestern; February 2016. S5 deals in this cycle. S6 “

S7 Office Buildings with Contiguous Blocks of Available Space Vacancy Rate Washington Metro Area | December 2015 S8 The Washington area’s overall vacancy rate is 14.2% at year-end 2015, down from 14.6% one year 1200 1,160 S9 ago. The Washington metro area’s direct vacancy rate was 13.5% at December 2015 down from S10 13.8% one year ago. 1000 DC Sub MD NOVA The Washington area’s overall Class A vacancy rate is 12.6% at year-end 2015, down significantly 800 from 13.9% one year ago. The Washington area’s direct Class A vacancy rate is 11.7%, down from 696

12.7% one year ago. 600

400 308

Overall Vacancy Rate (All Classes) Number of Ofice Buildings 200 142 Washington Metro Area | Dec. 2014 vs. Dec. 2015

0 Market DEC. 2014 DEC. 2015 10,000 SF 20,000 SF 50,000 SF 100,000 SF Northern Virginia 17.0% 16.8% Note: Includes buildings under construction or renovation. Suburban Maryland 16.4% 15.9% Source: CoStar, Transwestern; February 2016. District of Columbia 9.8% 9.2% Washington Metro Area 14.6% 14.2%

Source: CoStar, Transwestern; February 2016.

S4 | 40 The Washington Area Office Market

Construction Office Vacancy Rate There is 7.8 million SF of office space under construction or renovation in the Washington metro Washington Metro Area area at December 2015, up notably from 5.4 million SF one year ago. 50% of the space under construction is pre-leased at December 2015, compared to 38% one year ago. This compares very 16% favorably to the 10-year average pre-lease rate of 40%. 14% Developers started construction on 4.0 million SF during 2015, up from 3.3 million SF during 2014. 12% Northern Virginia accounted for just over 50% of the total groundbreakings in the metro area, with the District of Columbia closely following with 46% of the metro total. Although starts increased dur- 10% ing 2015, the level is below the 10-year annual average of 6.1 million SF. 8% During 2015, Property Group Partners started on a total of 1.0 million SF at 200 and 250 Massachu- S1 6% setts Avenue, NW in the Capitol Hill submarket. The buildings are currently 0% pre-leased and are Direct Vacancy Rate S2 expected to deliver by year-end 2018. The buildings are part of the Capitol Crossing mixed-use 4%

S3 project, which will deliver just over 2.0 million SF of office, retail, and residential combined upon full 2% build out. Also, Capital One started work on its 975,000 SF headquarters near the McLean Metro S4 station in Tysons; this building will deliver by 2018. 0% 2000 2002 2004 2006 2008 2010 2012 2014 2001 2003 2005 2007 2009 2011 2013 2015 S5 We expect construction starts to ramp up during 2016, as there is limited new space on the market. S6 However, groundbreakings should occur only in the very few submarkets where the supply and Source: CoStar, Transwestern; February 2016. demand is balanced. We expect renovations of Class B/C buildings to rise, as landlords position S7 themselves to compete for Class A tenants. In underperforming submarkets, conversation of older S8 vacated office space to multifamily, medical office, or self-storage could occur. Office Construction Starts Washington Metro Area S9 Developers delivered 1.7 million SF of office space, including renovations, in the Washington metro area during 2015. These projects came online at 41% pre-leased. Notably, Boston Properties 16,000 S10 delivered 479,000 SF at 601 Massachusetts Avenue, NW in the East End. This building was 84% pre- District of Columbia leased at delivery, with Arnold & Porter occupying 384,000 SF. In addition, COPT delivered 160,000 14,000 Suburban Maryland SF at 4870 Stonecroft Boulevard in the Rt. 28 South/Chantilly submarket, fully leased to GSA. Northern Virginia 12,000

10,000 10-Year Annual Average = 6.1 Million SF

Office Space Under Construction 8,000 Washington Metro Area | Millions of SF 6,000

SUBSTATE AREA DEC. 2013 DEC. 2014 DEC. 2015 In Thousands of SF 4,000 Northern Virginia 2.8 2.0 3.6 Suburban Maryland 1.3 0.9 0.5 2,000

District of Columbia 2.4 2.4 3.7 0 Total 64* 5.4* 7.8 2006 2007 2008 2009 2010 20112012 20132014 2015

*Does not total due to rounding. Source: CoStar, Transwestern; February 2016. Source: CoStar, Transwestern; February 2016.

S4 | 41 The Washington Area Office Market

Projected Supply vs. Demand Office Construction Deliveries We project the metro-wide overall vacancy rate will continue to decline over the next two years Washington Metro Area from 14.2% now to the low-to-mid 13% range by December 2017. Although we expect demand to gradually increase over the next two years, we do not believe this demand will be robust enough 14,000 SF Available at Delivery to significantly lower the vacancy rate metro-wide, as tenants consolidate or vacate space as new SF Leased at Delivery product delivers. A portion of the demand will be generated by pre-leased deliveries arriving to the 12,000 10-Year Average = 6.2 Million SF market over the next two years. 10,000 (45% Leased Upon Delivery) • We project the Northern Virginia overall vacancy rate will edge down to the high-15% range by December 2017, from 16.8% today. 8,000

S1 • We project the Suburban Maryland overall vacancy rate will edge down to the mid-14% range 6,000 by December 2017, from 15.9% today. S2 In Thousands of SF 4,000 • We project the District of Columbia overall vacancy rate will edge down to the mid-8% range by S3 December 2017, from 9.2% today. 2,000

57% 36% 36% 23%672% 61% 67% 52% 3% 41% S4 Although the Federal government approved a budget deal in late 2015 that will alleviate some of 0 2006 2007 20082009 20102011 2012 2013 20142015 S5 the lingering effects of sequestration, the deal is a short-term solution to a longer-term problem,

as the looming deficit remains an issue. Regardless, we expect tenants to become more confident Source: CoStar, Transwestern; February 2016. S6 about the economy over the next two years and therefore be more apt to lease office space, but at a S7 reduced rate compared to past recovery periods. “ 1 S8 NCREIF Return Index Office Properties

S9 We project the metro-wide overall 12-month total return at S10 metro area 3 rd quarter 20151 vacancy rate will edge down to the San Francisco 18.05% mid-13% range by December 2016, New York 16.60% Phoenix 15.53% from 14.6% today. Atlanta 15.52% “ Chicago 13.47% National Average 13.05% Effective Rents Denver 12.65% The average effective office rent declined 0.5% during 2015, though the decrease was far smaller Boston 11.64% than the 4.1% decline during 2014. Concession packages remained elevated during 2015, as land- Dallas 10.82% lords competed for tenants. For a typical 10-year term for a new lease deal signed during 2015, ten- Los Angeles 9.80% ant improvement allowances averaged around $74.00 PSF with 11.6 months of free rent. Conces- Houston 8.80% sions remained relatively on par with the 2014 levels of $72.00 in tenant improvement allowances Washington 6.79% and 11.1 months in free rent. Wash. CBD 8.81% Wash. Suburbs 1.96%

1 NCREIF compiles return based on its members’ $168.7 billion office portfolios. The index includes both current income and capital appreciation returns. Source: Delta Associates, based on data in NCREIF’s 3rd Quarter 2015 Real Estate Performance Report.

S4 | 42 The Washington Area Office Market

We expect that effective rents will edge up 0.5% to 1.5% during 2016 as the economy improves and Office Market Outlook leasing activity picks up. Newly-constructed office buildings should experience greater rent gain as the availability of such space is dwindling. Overall, the market remains in tenant favor, but the win- We expect the Washington metro area office market to gain greater dow of opportunity to secure lowered rents on larger blocks of quality Class A space in the centrally traction during 2016. We project the metro-wide overall vacancy rate located submarkets is closing or has closed in submarkets with better supply/demand balance. will edge down from 14.2% today to the low-to-mid 13% range by December 2017. Although we expect demand to gradually increase Investment Sales over the next two years, we do not believe this demand will be robust enough to lower the vacancy rate significantly. Investment sales totaled $6.2 billion or $355/SF in the Washington metro area during 2015, up from $5.8 billion or $392/PSF during 2014. Leasing activity from the GSA could rise during 2016, as several large potential leases are waiting for approval from Congress. The private The average cap rate for core office assets in the Washington metro area, on a 12-month trailing ba- sector will drive leasing activity, particularly from the tech sector. S1 sis, was 6.1% at the end of the 4th quarter of 2015, according to Real Capital Analytics. The average cap rate is down 27 basis points from one year ago. We believe the 12-month trailing average cap We believe average metro-wide effective rents will edge up by 0.5% S2 rate will remain in the low-6% range during 2016. However, trophy assets will likely continue to trade to 1.5% during 2016, but remain below average as the vacancy rate S3 at lower cap rates. Cap rates for recent Class A/Trophy trades have been in the mid-4% to mid-5% will remain elevated. Generous concession packages leveled off dur- range. ing 2015 and should start to decline during 2016. We expect newly-

S4 constructed office buildings to experience greater rent growth as the Investment Returns S5 availability of such blocks is dwindling.

Total returns (cash flow plus appreciation) realized in the Washington office market were 6.79% for S6 As the regional economy evolves, the Washington office market is the 12 months ending September 2015. The Washington area return is outpaced by the national entering a period of transition. Changing demographics, the sharing S7 return of 13.05%, as other metro areas surpass the Washington market. Washington’s CBD returns economy, and new types of business activity are all poised to alter were notably higher compared to those of the suburbs. “ S8 tenants’ preferences for the character and location of their office spaces. In this environment, successful investors and developers in S9 should pay attention to the following factors: S10 We expect the Washington metro • Renovation of well-located properties to Class A status so they can compete for tenants seeking to upgrade their space. area office market to gain greater • Attraction of tenants looking to consolidate regional operations traction during 2016. into a single location. • Improvement of property performance to attract a potential sale, “ given the amount of capital still entering the Washington market. • Preparation for the next round of new development by securing sites at premium locations – 24/7, live/work sites served by Metrorail. • Identifying where – and how – Millennials want to work, as this is becoming increasingly important in the recruitment and retention of younger employees.

S4 | 43 S5 | The Washington/Baltimore Regional Flex/Industrial Market S1

S10 The Washington/Baltimore Regional Flex/Industrial Market

The Washington/Baltimore Regional Largest Flex/Industrial Markets Flex/Industrial Market Large Metro Areas | 2015 1,800 This section of TrendLines was prepared by Transwestern’s in-house research team 1,600

HEALTHY MARKET CONDITIONS, MORE CONSTRUCTION, 1,400 ABOVE-AVERAGE RENT GROWTH 1,200

1,000 Demand resulting from a much-improved economy in the Washington/Baltimore region and global 800 S1 changes in retailing and distribution of consumer goods, together with a limited supply of large contiguous blocks of space, combined to create very favorable conditions for the flex/industrial 600 S2 400 market in 2015. Net absorption totaled positive 3.1 million SF due to pre-leased deliveries and Inventory (Millions of SF ) 400 leasing activity, primarily in bulk warehouse space. The overall vacancy rate edged down 10 basis S3 200 points to 8.6% at year-end 2015. With tenants demanding efficient and modernized space, the S4 0 construction pipeline expanded. Given these conditions, asking rents grew 2.3% during 2015, LA Basin ChiNY/NNJPhilDFW AtlDet SF BayHou BosWas/Bal which was above average. S5 Source: CoStar, Transwestern; February 2016. S6 We expect greater traction during 2016, as rising demand, coupled with fewer large blocks of available space, will create tighter market conditions that will lower the vacancy rate and push up asking rents. S7

S8 Flex/Industrial Vacancy Rates Selected Metro Areas | Year-End 2015

S9 We expect greater traction during 10% S10 2016, as rising demand, coupled 9% 8.6% National Vacancy Rate: 6.6% with fewer large blocks of available “ 8% 7% “ space, will create tighter market 6% conditions that will lower the 5% 4%

vacancy rate and push up Overall Vacancy Rate 3% asking rents. 2% 1%

0% LA Basin HouSF BayDet NY/NNJ DFWChi PhiBos AtlWas/Bal National Context Source: CoStar, Transwestern; February 2016. The Washington/Baltimore flex/industrial market, at 400 million SF, is the smallest market among the nation’s largest metro areas. The market’s primary function is regional distribution, accommodation of R&D, and a low-cost office alternative in flex space.

S5 | 45 The Washington/Baltimore Regional Flex/Industrial Market

At 8.6%, the Washington/Baltimore region’s overall vacancy rate is above the national average of 6.6%. The LA Basin and Houston metro areas have the lowest vacancy rates at 2.6% and 4.6% as of 2015 Highlights December 2015, respectively. Net absorption: 3.1 million SF during 2015, compared to 6.4 Net Absorption million during 2014. Flex/industrial net absorption totaled 3.1 million SF in the Washington/Baltimore region during 2015, Overall vacancy rate: 8.6%, down from 8.7% one year ago. compared to 6.4 million SF during 2014. This is slightly below the 15-year average of 3.6 million SF Direct vacancy rate: 8.4%, down from 8.5% one year ago. per year. Although net absorption was lower compared to the year prior, it is important to note that several large pre-leased deliveries drove net absorption during 2014. For example, 2010 Broening Under construction: 3.8 million SF, up from 3.2 million SF one Highway delivered 1.0 million SF fully leased to Amazon Fulfillment Center and 1467 Perryman Road year ago. delivered 946,000 SF fully leased to Clorox in Harford County. S1 Pre-leased space: 55% of the space under construction is Pre-leased deliveries and other major lease deals boosted absorption during 2015. For instance: pre-leased, compared to 29% a year ago. S2 • 22745 and 22755 Relocation Drive in the Dulles Corridor delivered 251,000 SF fully leased Asking rents: Up 2.3% during 2015, compared to rising 1.2% S3 to Amazon. during 2014. S4 • 7210 Preston Gateway Drive in the BWI submarket delivered 291,000 SF fully leased to Investment sales: $1.2 billion or $84/SF during 2015, compared to $706 million or $87/SF during 2014. S5 Coca-Cola.

S6 • Pier 1 Imports leased 644,000 SF at 500 Old Post Road in Harford County.

S7 • Canusa Corporation Fiber Group leased 216,000 SF at 8203 Fischer Road in Dundalk. • Office Movers leased 95,000 SF at 10100 Willowdale Road in Prince George’s County. Flex/Industrial Net Absorption S8 Washington/Baltimore Region | 2000 – 2015 Bulk warehouse was the leader in net absorption during 2015, accounting for 2.5 million SF or 80% S9 of the total for all property types. The Washington metro area captured 82% of the region’s net 10,000 S10 absorption with Baltimore accounting for only 18%. This was due to several move-outs in Baltimore 8,000 City that hampered gains. For example, Henry Bath vacated 532,000 SF at 2200 Broening Highway 15-Year Average = 3.6 Million SF and Unilever vacated 152,000 SF at 3701 Southwestern Boulevard. 6,000

4,000 Flex/Industrial Inventory & Absorption 2,000 Washington/Baltimore Region | 2015

0 inventory at 12/2015 net absorption

(millions of sf) 2015 Net Absorption in 000s of SF -2,000 type of space SF % SF -4,000 Bulk Warehouse 126.3 32% 2,457,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Flex/Warehouse 245.6 61% 243,000 Source: Transwestern; February 2016. Flex/R&D 27.6 7% 358,000 Total Flex/Industrial 399.58 100% 3,058,000

Source: Transwestern; February 2016.

S5 | 46 The Washington/Baltimore Regional Flex/Industrial Market

Flex/Industrial Inventory & Absorption Flex/Industrial Blocks of Space Washington/Baltimore Region | 2015 | Washington/Baltimore Region December 2015

Inventory at 12/15 (millions of SF) net absorption (thousands of SF) 1,200 Metro SF % sf % 1,000 935 Washington 189.4 47% 2,497 82% Bulk Warehouse Baltimore 210.1 53% 561 18% Flex/Warehouse 800 Total Flex/Industrial 399.5 100% 3,058 100% Flex/R&D

Buildings 600 564 Source: Transwestern; February 2016. of S1 400 Number S2 Gross Leasing Activity 232 200 S3 There were 935 buildings with contiguous blocks of available space over 10,000 SF in the Washing- 89 ton/Baltimore region at year-end 2015. This compares to 985 buildings one year ago. There are 89 0 S4 buildings with blocks of available space over 100,000 SF in the region, down from 95 one year ago. 10,000 SF 20,000 SF 50,000 SF 100,000 SF

S5 Minimum Size of Contiguous Blocks of Space The largest block of available space is 1.3 million SF of Class C space at 2800 Eastern Boulevard in the Baltimore metro area. The largest block of space in the Washington metro area is 509,000 SF Note: Contiguous blocks of available space. Includes buildings under construction or renovation. S6 Source: CoStar, Transwestern; February 2016.

of flex/warehouse building located at 6805 Industrial Road in the I-95 Corridor. However, plans are S7 in place to convert this building to the 436,000 SF St. James Sports and Wellness Complex. Once S8 converted, this building will be removed from the flex/industrial inventory. Flex/Industrial Direct Vacancy Rate S9 “ Washington/Baltimore Region | 2000 – 2014 S10 The region’s overall flex/industrial 12% vacancy rate was 8.6% at year-end 10%

te 8% 2015, down from 8.7% one year Ra 6% cancy

prior. Va “ 4% Direct

2% Vacancy Rate 0% The region’s overall flex/industrial vacancy rate was 8.6% at year-end 2015, down from 8.7% one 2000 2002 2004 2006 2008 2010 2012 2014 year prior. The Washington area’s overall vacancy rate is 50 basis points lower than the Baltimore 2001 2003 2005 2007 2009 2011 2013 2015

area’s rate, a reverse trend compared to December 2014 when Baltimore’s rate was 60 basis points Source: CoStar, Transwestern; February 2016. lower than Washington’s rate. The region’s direct vacancy rate was 8.4% at December 2015, down from 8.5% one year ago. The direct vacancy rate has been on a steady decline since peaking in 2009 at 10.6%. The rate is currently below the 10-year average of 9.2%.

S5 | 47 The Washington/Baltimore Regional Flex/Industrial Market

Construction Direct Flex/Industrial Vacancy Rates The amount of flex/industrial space under construction in the region is 3.8 million SF at year-end Washington/Baltimore Region 2015, up from 3.2 million SF one year ago. Space under construction is 55% pre-leased at Decem- ber 2015, up significantly from 29% one year ago. year-end year-end year-end market 2005 2010 2015 Redwood Capital Investments broke ground on 306,000 SF project at 2001 Wharf Road in Baltimore Washington/Baltimore Region 8.1% 10.6% 8.4% County East during 2015. This project is fully leased by FedEx and is expected to deliver during the Washington Metro Area 7.3% 11.4% 8.0% 1st quarter of 2016. In the Washington metro area, Prudential started on 236,000 SF at 13150 Mid Baltimore Metro Area 8.9% 9.7% 8.7% Atlantic Boulevard in Prince George’s County. This project should deliver by mid-2016. Source: CoStar, Transwestern; February 2016. Tenants are in the market for upgraded space with a focus on efficient building design and site lay- S1 out, which includes better trailer loading, clear heights, column spacing, and parking. As a result, we anticipate spec construction to ramp up to satisfy the undersupply of upgraded space during 2016. S2 Flex/Industrial Space Under Construction Although the pipeline is set to expand, we believe several older and inefficient flex/industrial build- Year-End 2014 vs. Year-End 2015 | Millions of SF S3 ings will be demolished and converted to another property type. Notably, of the product that has at 12/2014 at 12/2015 S4 been demolished over the past 10 years, 49% has been converted to multifamily. We expect this to occur in submarkets located inside the Beltway. % % S5 Metro area SF U/C pre-leased sf u/c pre-leased Developers added 4.2 million SF of flex/industrial inventory to the market during 2015, compared to Washington 1.5 35% 2.5 61% S6 5.6 million SF during 2014. Projects came on line at 36% pre-leased during 2015, compared to 87% Baltimore 1.7 23% 1.3 44% pre-leased on projects delivering during 2014. S7 Total Flex/Industrial 3.2 29% 3.8 55%

S8 Supply v. Demand Source: CoStar, Transwestern; February 2016.

S9 The regional flex/industrial vacancy rate likely will tick down to the mid-to-high 7% range by year- end 2016, from 8.6% today. The vacancy rate will decline as leasing activity accelerates during the

S10 next 12 months. Demand will be boosted by pre-leased deliveries, as over half of the 3.8 million SF Flex/Industrial Deliveries pipeline is pre-leased. Washington/Baltimore Region | 2015

millions of sf % “ metro area delivered pre-leased Washington 1.7 42% The regional flex/industrial vacancy Baltimore 2.5 31% rate likely will tick down to the Regional Total 4.2 36% mid-to-high 7% range by year-end Source: CoStar, Transwestern; February 2016. 2016, from 8.6% today. “ Asking Rent Change by Product Type Washington/Baltimore Region | 2015

% change submarket december 2014 to december 2015 Bulk Warehouse 0.4% Flex/Warehouse 4.0% Flex/R&D -1.4%

Source: CoStar, Transwestern; February 2016.

S5 | 48 The Washington/Baltimore Regional Flex/Industrial Market

Asking Rents Flex/industrial asking rents in the Washington/Baltimore region increased 2.3% during 2015, compared to a 1.2% increase during 2014. Flex/warehouse experienced the greatest gain in rent at 4.0%, which was slightly offset by the 1.4% decline in Flex/R&D rents. Flex/industrial rents should rise during 2016 as market conditions continue to improve. We expect flex/industrial rents to increase 2.5% to 3.0% during 2016. Investment Sales Flex/industrial investment sales volume totaled $1.2 billion or $84/SF in the Washington/Baltimore region during 2015, up from $706 million or $87/SF during 2014. Notably, MRP Realty and JP S1 Morgan Asset Management purchased the Northern Virginia Industrial Park in the I-95 Corridor for S2 $86.5 million, or $106/SF. In the Baltimore metro area, First Industrial Realty Trust purchased 400 and 500 Old Post Road in Harford County for $61.9 million or $62/SF. S3 We expect investment sales activity to remain healthy in 2016 as market conditions continue to S4 strengthen. We anticipate those with cash will continue to take advantage of purchasing flex/indus- S5 trial assets in the Washington/Baltimore market, given its long-term growth prospects and stable nature. S6 Flex/Industrial Market Outlook S7 We expect the Washington/Baltimore flex/industrial market to perform well during 2016. We expect S8 flex/warehouse space will be in demand to accommodate an improving housing market and distri- S9 bution of goods, whereas the on-line retailers are supporting an expansive bulk distribution market. The flex/R&D market will be supported by biotech as well as tenants looking for a more affordable S10 office option. We project the overall vacancy rate will tick down to the mid-to-high 7% range by year-end 2016 as demand strengthens. Given these conditions, we believe rents will rise, by 2.5% to 3.0% during 2016. Tenants are in the market for upgraded space with a focus on efficient building design and site layout, which includes better trailer loading, clear heights, column spacing, and parking. As a result, we anticipate spec construction to ramp up to satisfy the undersupply of quality space during 2016. Given the amount of dated product on the market, demolition and conversion to an alternative product type is poised to rise during 2016. As this product is converted to another use, these vacated buildings will be removed from our inventory, further lowering the vacancy rate. Overall, we expect healthy market conditions during 2016 and beyond.

S5 | 49 S6 | The Washington Area Apartment Market

S10 The Washington Area Apartment Market

The Washington Area Apartment Market 2015 Highlights DEMOGRAPHIC CHANGES STILL FAVOR APARTMENTS Stabilized vacancy for all classes of investment grade apartments decreased by 60 basis points over the past year – currently at 3.9%, while Class A vacancy decreased by Washington area Class A apartment absorption continues to break records – six quarters in a row 100 basis points to 4.6%. and counting – as the number of apartments filled remains well above historic norms. Demographic and economic shifts in the market favoring apartments helped the region withstand the ongoing Class A rents edged up by 0.5% in 2015. Rents in the metro influx of new supply in 2015. Absorption outpaced deliveries in Northern Virginia and The District. area also increased by 0.5% when including Class B product.

Rent growth remains positive — albeit very slight — and vacancy is on the decline. Meanwhile, the Washington continues to experience record-breaking Class development pipeline was down overall for the year. S1 A absorption, with 13,429 Class A units absorbed in 2015 –

Will these trends continue? Before we get to our outlook for 2016, let’s understand the region’s more than double the region’s 10-year average. Absorption S2 national context and review the apartment market’s recent performance. including Class B product totaled 14,115 units. S3 The 36-month development pipeline is down 12% from a year “ ago to 32,164 units, with 20,120 of those units currently under S4 construction. S5 Demographic and economic shifts Construction starts during 2015 increased by 18% from 2014 S6 in the market favoring apartments to 10,785 units. S7 Meanwhile, deliveries decreased by 14% from 2014, with helped the region withstand the 12,310 units delivered in 2015 (still almost twice the long-term S8 ongoing influx of new supply in 2015. average). S9 “ S10 National Context Apartment Vacancy Rates Though seventh in population, the Washington metro area is the sixth-largest apartment market in the Major Apartment Markets U.S. with an inventory of approximately 580,000 units, which places it behind New York, the Los Angeles Basin, Chicago, the San Francisco Bay Area, and Dallas/Fort Worth. The Washington metro-wide 7.0% vacancy rate is 3.9% for all classes of apartment product at 4th quarter 2015. The national rate is 4.3%. National Rate:1 6.0% 4.3% Rents 5.0% Metro area effective rents for all classes of investment-grade apartments rose by 0.5% in 2015. Class 4.0% A rents increased by 0.5% and Class B rents rose by 0.6%. Rent performance for Class A low-rise

product (up 1.4%) outperformed mid- and high-rise product (down 0.5%). 3.0%

Vacancy 2.0% Vacancy Rate (All Classes) Washington metro area stabilized vacancy for all classes of apartments is 3.9% at 4th quarter 2015, 1.0% 60 basis points lower than a year ago. 0.0% • The December 2015 vacancy rate for stabilized Class A apartments in the Washington metro NY LA ChiWashPhi PhxDFW Balt HouAtl area is down 100 basis points from a year ago to 4.6%. 1The 79 largest apartment markets in the U.S. 1*3rdThe Quar79 largestter 2015 apartment data except markets for Wa inshingt the U.S.on, Baltimore, and Philadelphia which are as of Fourth Quarter 2015. *3rd Quarter 2015 data except for Washington, Baltimore, and Philadelphia which are as of Fourth Quarter • Mid- and high-rise stabilized vacancy is down 150 basis points, while low-rise stabilized vacancy 2015. is down 40 basis points. Source: REIS, Delta Associates; February 2016.

S6 | 51 The Washington Area Apartment Market

Annual Net Apartment Absorption Class A & B Units | Washington Metro Area | 2013 – 2015

18,000

15,648 16,000 15,211 14,963 14,115 13,983 14,000 12,014 12,000 Long-Term Average = 6,021*

10,000

8,000 7,032 S1 6,400 5,943 5,540 6,000 4,752 S2 4,000

S3 Net Absorption of Class A & B Units 2,000 1,614

S4 0 3/13 6/13 9/13 12/133/146/149/1412/14 3/15 6/15 9/15 12/15 S5 *Includes Anne Arundel and Howard counties. S6 Source: Delta Associates; February 2016.

S7 S8 Effective Rental Rate and Vacancy Rate S9 All Types and Classes of Apartments | Washington Metro Area* | 1999 – 2015

S10 6.0% $1,900 Average Effective Base Rent $1,800 5.0% Stabilized Vacancy $1,700 $1,600 4.0% $1,500 $1,400 3.0% $1,300 $1,200 2.0% $1,100 $1,000 Stabilized Vacancy Rate 1.0% $900 Average Effective Base Rent $800 0.0% $700 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15

3.6% / Year Long-Term Rent Growth

*Historic data includes Anne Arundel and Howard counties. Source: Delta Associates; February 2016.

S6 | 52 The Washington Area Apartment Market

Lease-Up Pace Absorption Pace per Project per Month Per-project lease-up pace in 2015 was 15 units per month, unchanged from 2014, as a similar For Projects in Initial Lease-Up | Washington Metro Area | 2008 – 2015 number of new projects were open and competing for market share. There are 63 projects in active lease-up at 4th quarter 2015 compared to 67 projects at 4th quarter 2014. The number of projects 20 in lease-up will remain elevated, with a large slate of projects set to deliver in the coming months, 18 likely putting pressure on the per-project lease-up pace during 2016. 16 Pipeline 14 12 The pipeline of likely deliveries over the next 36 months decreased by 12% during 2015, standing 10 at 32,164 units at the end of the year. We expect the 36-month pipeline to continue to shrink to a 8 S1 more healthy level over the next 12 to 24 months as financial feasibility becomes more difficult in the 6

face of rising construction costs and relatively flat rents. Most of the pipeline decline will come from S2 4 Monthly Absorption Pace Per projects that delay starting construction. Few pipeline projects are likely to deliver as condos, as only Project Since Marketing Began 2 S3 11% of the 19,919 units currently under construction (but not yet leasing) metro-wide are of a scale

suitable for switching to condominiums before delivery. So far in this cycle, a handful of apartment 0 S4 12/0812/09 12/1012/11 12/1212/13 12/1412/15 projects, ranging in size from 60 to 200 units, have switched to condominiums. Number of Projects in Initial Lease-Up: 49 34 30 18 29 56 67 63 S5 “ Source: Delta Associates; February 2016. S6

S7 The pipeline of likely deliveries over Market Rate Apartment Development Pipeline S8 the next 36 months decreased by Washington Metro Area | 2005 - 2015 S9 12% during 2015, standing at 40,000 S10 32,164 units at the end of the year. 35,000 “ 30,000

25,000 Share of Planned vs. Under Construction in 36-Month Pipeline 20,000 Washington Metro Area | 2015 15,000

10,000

period % Planned % Under Construction and Under Construction Market Rate Units Planned Q1 2015 16% 84% 5,000 Q2 2015 20% 80% 0 Q3 2015 21% 79% 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Q4 2015 19% 81% Source: Delta Associates; February 2016.

Source: Delta Associates; February 2016.

S6 | 53 The Washington Area Apartment Market

Starts and Deliveries Class A Apartment Unit Starts During 2015, 10,785 units started construction in the Washington metro area, which is above the Washington Metro Area | 2013 – 2015 long-term annual average. An estimated 14,004 units are slated for delivery in 2016, a 13% increase over the 12,310 units delivered in 2015. Deliveries are expected to slow to 8,886 units in 2017, more 7,000 consistent with the absorption rate in recent years. District Sub MD No VA 6,000 Growing Demand 5,000 Class A Projected Quarterly Absorption ~ 2,400 Class A apartment absorption in the Washington metro area was 13,429 units during 2015 —a new 4,000 record for the region and more than double the 10-year annual average. Unlike past dynamics, Class A absorption was not at the expense of the Class B market, which also experienced positive absorp- 3,000 S1 tion. Contributing factors to this uptick include: 2,000 S2 • A plentiful supply of new apartments. 1,000

S3 • An increase in the types of jobs and income categories that tend to generate demand for rental Number of Class A Market Rate Units apartments rather than ownership housing. 0 S4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 • An increase in Millennial households that tend to/prefer to rent rather than own. 2013 2014 2015 S5 • An increase in the overall share of renter households vs. owners. Source: Delta Associates; February 2016. S6 Over the coming quarters, three factors will be necessary for sustained rental demand: S7 • Job growth. S8 Projected Deliveries • Demographic shifts: 36-Month Development Pipeline | Washington Metro Area | 2016 – 2018 S9  The “de-nesting” of 25- to 34-year-olds who are living at home. 4,500 S10 District Sub MD No VA  The “un-grouping” of 25- to 34-year-olds who are living together to save money. 4,000 3,500  The “trading down” of Baby Boomers from single-family homes to apartments. Class A Projected Quarterly Absorption ~2,400 3,000 • Renter/owner preference shifts: The ratio of renters to owners stays the same or increases. 2,500

In recent months, at least two of these three factors have continued to favor the apartment market. 2,000

Job growth during 2015 was stronger than the 10-year average, and the share of renter households 1,500 in the metro area is on the rise. We expect all three of these factors to continue through the end of 1,000 this decade. These trends will produce solid Class A apartment absorption, supporting our projected 500

annual demand of 9,667 Class A units over the next three years, lower than the 13,429 units absorbed Number of Class A Market-Rate Units during 2015, but substantially higher than the 10-year average. 0 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2016 2017 2018

Source: Delta Associates; February 2016.

S6 | 54 The Washington Area Apartment Market

Renter Households

These trends will produce solid Class A Washington Metro vs. U.S. | 2007 – 2015

apartment absorption, supporting our 37% projected annual demand of 9,667 “ 36% 35% Class A units over the next three years, 34% “ 33% lower than the 13,429 units absorbed 32% Washington Metro S1 during 2015, but substantially higher 31% U.S. S2 30% than the 10-year average. Percent of Total Household s 29% S3 28% S4 2007 2008 2009 2010 2011 2012 2013 2014 2015*

S5 *As of Third Quarter. Source: U.S. Census, Delta Associates, February 2016. S6

S10

S6 | 55 The Washington Area Apartment Market

Development Opportunities Remain Years of Apartment Supply Although the 36-month pipeline is high across the metro area, absorption records have Washington Metro Area Class A Low-Rise Submarkets | 4th Quarter 2015 been broken for several quarters in a row. When the prior year’s absorption is compared to the development pipeline at the submarket level, 13 low-rise submarkets in Northern Virginia and Suburban Maryland — mostly outside the Beltway — have less than four years of supply (or less than one year’s worth of product overhang). Twelve of these submarkets have less than two years of supply and could be considered supply-constrained. There are also 11 high-rise submarkets that have less than four years of supply; six of these have less than two years’ worth. This suggests there are still development opportunities in the metro area, S1 Years of Supply despite an overall market perception of oversupply. Less than 1 S2 In addition to submarket-level development prospects, there are niche opportunities that 1 – 1.9 2 – 2.9 S3 can be exploited in the period ahead: 3 – 3.9 S4 • Upgrade well-located Class B and Class C assets to compete for either value-conscious renters or Class A renters seeking quality accommodations below top-of-the-market S5 prices. S6 • Repurpose obsolete assets (multifamily or office) or build new apartment projects that Note: Calculated by dividing 36-month development supply by net absorption during the past S7 appeal to Millennial preferences – smaller units with best-in-class common area amenities 12 months. at 24/7 active locations. Unshaded submarkets have four or more years of supply. S8 Source: Delta Associates, February 2016. • Build new units that appeal to empty-nesters or Baby Boomers at locations that feel

S9 familiar and with product designed to appeal to them. For example, design units with larger rooms and a layout that feels like a single-family home. S10 Years of Apartment Supply

• Accommodate work-at-home tenants (e.g., with dens that can be used as offices) to Washington Metro Area Class A High-Rise Submarkets | 4th Quarter 2015 capitalize on the region’s non-payroll job growth and the increasingly-common pattern of telecommuting. Although the 36-month pipeline “

is high across the metro area, Years of Supply Less than 1 absorption records have been 1 – 1.9 broken for several quarters in 2 – 2.9 “ 3 – 3.9 a row.

Note: Calculated by dividing 36-month development supply by net absorption during the past 12 months. Unshaded submarkets have four or more years of supply. Source: Delta Associates, February 2016.

S6 | 56 The Washington Area Apartment Market

Supply/Demand and Rent Outlook Demand and Supply Projections Given the projected delivery schedule of projects currently under construction, we expect that the Washington Metro Area Class A Apartment Market | Dec. 2015 – Dec. 2018 region-wide vacancy rate for stabilized Class A apartment properties will be 90 basis points lower in three years than it is today – 4.6%, but in the intervening years the rate likely will rise to nearly 5% as Demand the level of deliveries remains elevated in the short term. However, there will be significant variation 16 Net Absorption 14 in conditions among submarkets. 9,667/Year = 29,000 12 At the regional level, Class A rents likely will increase slightly in 2016 due to the large slate of Supply1 scheduled deliveries although projected demand remains above historic levels. Rents have thus far 10 Planned and may held up surprisingly well despite the increased competition over the past couple of years, thanks to 8 deliver by 12/18: 4,878 units record absorption. Also aiding the Class A market has been strong absorption of Class B product. 6 S1 Under Construction We expect rent growth to recover to the 2.5% to 3.5% range by 2017 as growth in 2018 approaches 4 Supply: 27,286 units2 long-term rates. S2 2 Total = 32,164 units Market Rate Units in Thousand s 1 Probable supply after S3 0 NoVA Sub MD. The District projected attrition. 2 Includes unleased units at S4 3.5% 3.7% 4.0% projects in lease-up. We expect that the region-wide Projected Stabilized Vacancy Percent at December 2018 S5

vacancy rate for stabilized Class A Projected Stabilized Vacancy Rate at December 2018: 3.7% Metro-Wide S6 Source: Delta Associates; February 2016. S7 apartment properties will be 90 basis

S8 points lower in three years than it is “ Class A Apartment Vacancy Rate S9 today – 4.6%, but in the intervening Washington Metro* | 4th Quarter 2008 – 2018 S10 “ 7% years the rate likely will rise to nearly No VA Sub MD * The District 5% as the level of deliveries remains 6%

elevated in the short term. However, 5%

there will be significant variation in 4%

conditions among submarkets. Stabilized Vacancy Rate 3%

2% Washington 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Metro Vacacncy* 3.6% 4.4% 3.6% 5.0% 4.2% 4.7% 5.6% 4.6% 4.9% 4.2% 3.7%

*Historic data includes Anne Arundel and Howard counties. Source: Delta Associates; February 2016.

S6 | 57 The Washington Area Apartment Market

Return on Investment Annual Class A Apartment Rent Growth Total return (cash flow plus appreciation) on apartment investment in the Washington market con- Washington Metro Area* | 2003 – 2018 tinues to track below the national average. The 12-month total return through September 2015 was 4.29%, significantly off the cyclical peak of 28.64% in 2010 and lower than other cities in the Mid- 10% Atlantic. Washington was early to recover from the 2009 recession and also early to peak in invest- Long-Term Average = 4.2% ment returns. Investors seeking the risk-adjusted safety of Washington apartments bid up prices 8% even as rent growth was slowing – leading to lower overall returns. Nevertheless, recent apartment 6% investment activity remains healthy and valuations for new transactions (in terms of cap rates and per-unit prices) are strong, as discussed below. 4%

S1 2%

S2 National Council of Real Estate Investment Fiduciaries 0% 1

Return Index | Investment-Grade Apartment Properties | 12 Months Ending September 2015 Percent Effective Rent Growth S3 -2% metro area 12-month total return1 S4 -4% Atlanta 19.36% 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 S5 Dallas 12.76% *Historic data includes Anne Arundel and Howard counties. S6 Austin 12.53% Source: Delta Associates; February 2016.

S7 Chicago 12.37% National Average 12.02% S8 Phoenix 11.87% S9 Houston 8.82% S10 Baltimore 8.39% Philadelphia 7.29% Washington 4.29%

1 NCREIF compiles returns based on its members' $70 billion apartment portfolio. The index includes both current income and estimated capital appreciation returns. Source: Delta Associates, based on trailing 12-month data in NCREIF's "Real Estate Performance Report: Third Quarter 2015."

Washington Investment Sales With $2.54 billion of multifamily Class A building transaction volume in 26 trades for most of 2015, sales volume for the year was nearly 50% higher than 2014, when $1.71 billion in sales transactions closed. The average per unit price for 2015 sales was 9.7% higher than 2014 for low-rise units (at $264,462), while high-rise prices were down 14.5% from 2014 (at $459,060). It is our sense, and that of our 2015 Delta Associates Market Maker Survey participants, that apartment cap rates declined in 2015 due to record absorption and a (modestly) shrinking pipeline. With Millennials delaying home ownership and increasing numbers of Baby Boomers retiring and downsizing, demographic forces should continue to mitigate the impact of a crowded pipeline.

S6 | 58

The Washington Area Apartment Market

After closing 15 multifamily land sales in 2014, totaling $220 million, the pace of land sales slowed considerably in 2015, with at least nine It is our sense, and that of our 2015 recorded multifamily land sales that can accommodate nearly 2,400 Delta Associates Market Maker Survey “ multifamily units and an aggregate value of $112.9 million. For more information on investment sales trends in the Washington participants, that apartment cap rates area, please see Section Nine of this report. “ declined in 2015 due to record absorption and a (modestly) A Word About Our Definition of Vacancy Rate S1 shrinking pipeline. We sometimes hear from apartment developers and managers that their portfolio vacancy rate is 200 to 400 basis points S2 higher than the numbers we report, which places them under S3 unfair investor scrutiny. S4 When we conduct our quarterly surveys, we obtain information on “units available to lease” – that is, physical vacancy. S5 Obtaining the information this way, of course, may produce S6 several important differences from “vacancy” as reported in your financial statements. Simply stated, the difference can be S7 characterized as: S8 Delta’s Definition: Available units to lease S9 Operating Statement Vacancy: Economic vacancy S10 Our definition (available units) may therefore be understated compared to yours (economically vacant) by our exclusion of units occupied by non-paying tenants (which we cannot know), and of units not available for lease, such as employee units and model apartments. We estimate that this adds about 100 to 150 basis points to your definition of vacancy, as compared with ours. Our vacancy rate may also be understated, compared with yours, by our exclusion of what are economically vacant, on-notice units for which a lease to occupy in the future has been signed (hence, they are not currently available to lease). We estimate that this potentially adds another 150 to 200 basis points to your definition of vacancy, as compared to ours.

S6 | 59 S7 | The Washington Area Condominium Market

S10 The Washington Area Condominium Market

The Washington Area Condominium Market 2015 Highlights MARKET CONDITIONS ARE BETTER, BUT PRODUCT SHORTAGE PERSISTS Sales Volume: New unit sales volume (defined as net binding contracts written with security deposits up) totaled 1,432 during 2015. This compares to 1,476 new unit sales in 2015. Years of constrained supply have taken a toll on the new condo market, as 2015 ended with the lowest annual sales total in more than a decade and the development pipeline tightened further. Prices: New unit prices increased by 3.3% metro-wide in 2015. However, we expect an uptick in sales activity in the first half of 2016 as several larger projects begin Condominium resale prices declined -0.3%. selling. Meanwhile, prices continued upward – all but two submarkets experienced price growth Concessions: Metro-wide concessions average 0.6% of asking

over the year. price as of year-end 2015. S1 Pipeline: There are currently 3,245 unsold new condominium

S2 units that are either actively marketing or under construction (and yet to begin marketing) in the metro area. As a result, S3 Years of constrained supply have there now is only 15.3 months of condominium inventory on “ the market. S4 taken a toll on the new condo market Sales pace: Projects introduced to the market during 2015 S5 as 2015 ended with the lowest annual have sold at an average of 2.2 sales per month. S6 sales total in more than a decade S7 “ and the development pipeline S8 Largest Condominium Markets S9 tightened further. Select Metro Areas | 2015

S10 600

National Context 500 The Washington metro area, the seventh-largest in population, is the fifth-largest condominium market in the nation, with approximately 127,000 units. Only the nation’s three largest cities (New York, 400 Los Angeles, and Chicago) and the popular second-home location of South Florida have larger

inventories of condominiums than the Washington metro area. 300 Sales Activity 200 For 2015, sales metro-wide are down 3% from 2014. However, sales are up 4% in the District and Thousands of Units 127.2 up 18% in Suburban Maryland. See below for how the submarkets stack up compared to a year ago. (It is important to keep in mind that product shortage has hampered sales volume in many 100 submarkets.) 0 NY S FlaChi LA BasinWas BosSF BayTampa

Note: Estimated. Source: U.S. Census, Delta Associates; February 2016.

S7 | 61 The Washington Area Condominium Market

• Central DC: down 23% New Condominium Sales Activity • Mideast DC: up 1% Washington Metro Area | 2010 – 2015 • Upper NW DC: down 32% 800 • Capitol East DC: up 46% • Arlington/Alexandria: down 58% 600 • Fairfax/Falls Church: down 10%

• Loudoun/Prince William: up 15% 400

• Montgomery: up 33% Net Sales S1 • Prince George’s: down 30% 200 S2 The Loudoun/Prince William counties submarket continues to lead the metro area in new condo S3 sales activity (with mostly 2-over-2 townhouse-style development), followed by Mideast DC. In Sub- 0 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 S4 urban Maryland, Montgomery County led in sales activity in 2015. 2010 2011 2012 2013 2014 2015 S5 Resale activity in the 12-month period ending November 2015 was up slightly from 2014. Since 2013, resale transactions have been averaging 14,425 units annually, up significantly from the Source: Delta Associates; February 2016. S6 period 2009 – 2012 when the annual average was 11,615 units. Since 2008, the condo share of all S7 residential resales increased from 20% to 24%.

S10

S7 | 62 The Washington Area Condominium Market

Sales Compared to Remaining Inventory Effective New Condominium Sales Price Change Fourth Quarter 2015 | Washington Metro Area 2005 – 2015

Condo Submarket Q4 Sales/Remaining Inv. 10% Central DC 50 / 258 8% Mideast DC 49 / 448 6% Upper NW DC 8 / 51 Capitol East DC 27/ 544 4%

Arlington/Alexandria 10 / 259 2%

S1 Fairfax/Falls Church 30 / 238 0% Loudoun/Prince William 469 / 673 Percent Change S2 -2% Montgomery 79 / 720 -4% S3 Prince George's 35 / 54 -6% S4 Source: Delta Associates, February 2016. 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 S5 Source: Delta Associates; February 2016. S6 Sales Compared to Remaining Inventory S7 Fourth Quarter 2015

S8 Condo Submarket # of Units Sold1

S9 Loudoun/Prince William 469 Mideast DC 248 S10 Montgomery 176 Fairfax/Falls Church 157 Capitol East DC 137 Arlington/Alexandria 102 Central DC 97 Prince George's 31 Upper NW DC 15 Washington Metro Total 1,432

Source: Delta Associates, February 2016.

Prices The average effective price per square foot for “same-store” new condo sales in the metro area rose by 3.3% in 2015. Leading the way in price growth over the year is Mideast DC with a 17.3% increase, followed by Central DC with an increase of 14.1%. The only submarkets in the metro area to record a decline in prices are Montgomery County (down 4.7%) and Loudoun/Prince William (down 0.5%). Over the last 10 years, prices in the metro area have increased by 0.2% per year on average, mainly due to sharp price drops in the outer suburbs of Northern Virginia during the market down- turn and a lackluster recovery since then.

S7 | 63

The Washington Area Condominium Market “ New Condominium Prices Per SF* The average effective price per Washington Metro Area | Fourth Quarter 2015

square foot for “same-store” new $1,600 condo sales in the metro area rose $1,400 $1,200 by 3.3% in 2015. $1,000 “ $800 $600 S1 $400 $200 S2 Sales Compared to Remaining Inventory $1,500 $884 $713 $626 $476 $469 $297 $291 $168 2015 $0 Average Effective Contract Price Per SF a S3 Mont Ffx/FC Condo Submarket Q4 Sales/Remaining Inv. r.George’s Lou/PrWm Central DC Mideast DC Cap East DC P S4 Upper NW DC Arl/Alexandri Central DC 50 / 258 S5 Mideast DC 49 / 448 *Reﬂects prices of condo projects currently selling, so averages should not be compared fom quarter to quarter since locations of projects change each quarter. S6 Upper NW DC 8 / 51 *Reflects prices of condominium projects currently selling, so averages should not be compared from Capitol East DC 27/ 544 quarter to quarter since locations of projects change each quarter. S7 Arlington/Alexandria 10 / 259 Source: Delta Associates; February 2016. S8 Fairfax/Falls Church 30 / 238 S9 Loudoun/Prince William 469 / 673 Resale Condo Sales Price Change Montgomery 79 / 720 S10 Washington Metro Area | 2005 – 2015 Prince George's 35 / 54

Source: Delta Associates, February 2016. 25%

20% The region’s highest effective prices per square foot are found in Upper NW DC, and the lowest 15% are in Loudoun/Prince William. The product currently selling in Upper NW DC is in luxury buildings, while the majority of inventory on the market in Loudoun/Prince William is townhouse-style condo 10% developments. Prices for new condos in Central DC are higher than in most downtown areas in the 5% U.S. and similar to those in LA, but below other gateway cities such as New York and San Francisco.

Meanwhile, per-square-foot prices in Upper NW DC are currently on par with San Francisco. Percent Change 0%

As of November 2015, resale condo prices are down 0.3% metro-wide from a year earlier, while -5% single-family resale home prices rose by 1.3% during the same time period. Prices fell in several submarkets, including Arlington, Alexandria, Prince William, and Montgomery. -10% 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Source: Delta Associates; February 2016.

S7 | 64 The Washington Area Condominium Market

Concessions Concessions as a Percent of Average Asking Price by Substate Area Concession rates decreased by 100 basis points metro-wide during 2015, from 1.6% to just 0.6% Fourth Quarter 2014 vs. Fourth Quarter 2015 of the average asking price. The only submarkets where concessions increased over the year were Mideast DC (0.5% to 0.6%) and Capitol East DC (0.7% to 1.2%). They are lowest in the District and % of Sales Price Northern Virginia, both averaging at or below 0.5% of the average asking price. They are highest in Substate Area Q4 2014 Q4 2015 Loudoun/Prince William, which is currently at 1.5% of the average asking price. District of Columbia 0.7% 0.4% Pipeline Northern Virginia 1.9% 0.5% Suburban Maryland 1.6% 0.8% The number of unsold units in projects currently marketing or under construction (and not yet mar- Washington Metro Average 1.6% 0.6% keting) is 3,245 units as of December 2015, similar to one year prior. For most of 2015 the actively S1 marketing pipeline steadily rose, but it fell by 15% in the last three months of the year. Currently, the Source: Delta Associates; February 2016. submarkets with the largest available inventory are Montgomery (720 units), followed by Loudoun/ S2 Prince William (673 units) and Capitol East DC (544 units). S3 As the condo market has tightened, the pipeline has begun to grow. During 2015 the number of Condominiums Actively Marketing or Under Construction S4 units planned to begin sales within the next 36 months increased by more than 1,000 units to 4,288 Washington Metro Area | 2014 – 2015 units before attrition; 42% of those units will be located in the District. Of these units, we estimate S5 5,000 about 75% of the total will actually be built within the next three years. In addition, about 8,500 units Sub MD District NoVA S6 are in the longer-term condo pipeline and another 52,300 multifamily units that are in various stages 3,834 of planning may be built either as rental apartments or as condos. 4,000 3,729 S7 3,281 3,226 3,245 The inventory-to-sales ratio (months of supply at current rates of sale) metro-wide is currently 15.3 3,000 S8 months. Most of the District submarkets have the lowest months of inventory available – for in- S9 stance, Capitol East DC has only about five months’ worth; however, the months of inventory in this 2,000 submarket is expected to increase significantly in the next few months as some large-scale projects S10 begin sales. Montgomery currently has the highest inventory-to-sales ratio – 40 months of inventory. Market Rate Units

We have found over the years that a healthy ratio is between 24 and 30 months of supply – in that 1,000 range, prices tend to move up gradually if the ratio of “fresh” product is above 65%. In contrast, the

rule of thumb in the resale market is that six months of supply is considered to be a healthy ratio. 0 Dec. 2014 March 2015 June 2015 Sept. 2015 Dec. 2015 The difference between the two corresponds to the 18 to 24 months it usually takes to build a new condo project. Source: Delta Associates; February 2016. “ Months of Inventory by Sub-State Area For most of 2015 the actively Fourth Quarter 2014 vs. Fourth Quarter 2015

marketing pipeline steadily rose, Months of Inventory Substate Area Q4 2014 Q4 2015 but it fell by 15% in the last three District of Columbia 9.5 7.2 months of the year. Northern Virginia 22.1 15.8 “ Suburban Maryland 24.3 31.0 Washington Metro Average 18.3 15.3

Source: Delta Associates; February 2016.

S7 | 65 The Washington Area Condominium Market

Months of Inventory Months of New Construction Supply Fourth Quarter 2015 Washington Metro Area | 2005 – 2016

Condominium Submarket Months of Inventory 60 Capitol East DC 5.1 Central DC 7.1 50 Mideast DC 7.8 40 Loudoun/Prince William 13.8

Wash. Metro Average 15.3 30 S1 Fairfax/Falls Church 18.0 20 Upper NW DC 19.2 Months of Supply S2 Prince George's 24.0 10 S3 Arlington/Alexandria 24.8

S4 Montgomery 40.0 0 '05'06 '07'08 '09'10 '11'12 '13'14 '15Q1Q2Q3Q4 S5 Note: Calculated by dividing actively marketing inventory by sales during the past 12 months. Source: Delta Associates; February 2016. 2016

S6 Source: Delta Associates; February 2016.

S7 The supply-demand balance in the metro area will continue to favor developers in most areas, S8 with limited new condo unit supply and rising prices – most notably in Northern Virginia. However, Months of Inventory of New Condominiums resale listings and sales are on the rise. Despite this increase, we foresee new unit prices rising and S9 improved development opportunities throughout the metro area through 2017. Fourth Quarter 2015 S10 Washington Metro Average: 15.3 Months of Inventory

Submarkets The supply-demand balance in the 40.0 Central DC

13.8 7.8 Mideast DC metro area will continue to favor 19.2 Upper Northwest DC 7.1 developers, with limited new condo- Capitol East DC “ Arlington/Alexandria 5.1 minium unit supply and rising prices. 18.0 “ Fairfax/Falls Church Loudoun/Prince William We foresee new unit prices rising 24.0 24.8 Montgomery and improved development oppor- Prince George’s tunities throughout the metro area

Note: Calculated by dividing actively marketing inventory by sales during the past 12 months and through 2017. multiplying by 12. Source: Delta Associates, December 2015.

S7 | 66 The Washington Area Condominium Market

Condominium Demand and Supply Projections Washington Metro Area | Fourth Quarter 2015 – Fourth Quarter 2018

Demand

4,000 Net Sales 2,200/Year = 6,600 3,500 Supply1 3,000 Planned and may 2,500 deliver by 9/18: 3,216 units 2,000 S1 Under Construction 1,500 and/or Marketing: 3,245 units2 S2 Market Rate Units 1,000 Total = 6,461 units 500 S3 1 Probable supply after 0 projected attrition. S4 The District NoVA Sub MD 2 Includes unsold units at projects selling. S5 Source: Delta Associates; February 2016. S6

S8 Resale Condominium Active Listings Trend Washington Metro Area | 2005 – 2015 S9 7,000 S10 6,000 District Sub MD 5,000 NoVA

4,000

3,000

Number of Listing s 2,000

1,000

0 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Source: MRIS, Delta Associates; February 2016.

S7 | 67 The Washington Area Condominium Market

Active resale listings at November 2015 were up to 3,388 units, an increase of 14% from November 2014. Despite the large percentage increase in active listings, there are only 2.7 months of resale Apartment Units Under Construction that are Candidates for inventory on the market. Within the District, there is only 2.1 months of inventory. Switching to Condos Fourth Quarter 2015 Condominium Starts and Deliveries Sub-State Area Units The number of construction starts in 2015 was just 823 units, as several projects expected to start during the year were delayed. About 55% of the units started were in the District, with another 34% District of Columbia 1,693 in Northern Virginia, and the remaining 11% in Suburban Maryland. In 2016, over 2,400 units are ex- Northern Virginia 248 pected to start construction. Many of these in projects were delayed from 2015. About one-quarter Suburban Maryland 276 of these starts will be located in the Capitol Riverfront neighborhood in the District. Washington Metro Total 2,217

S1 In addition, there are at least 21 apartment projects currently under construction of a suitable size Source: Delta Associates, February 2016. that could be potential candidates for switching to condo. Most of these projects are located in S2 the District and Bethesda. There are also limited opportunities to convert newer Class A apartment S3 buildings of medium size, but most conversion activity so far in this cycle has come in the form of Condominium Unit Deliveries older boutique buildings. S4 Washington Metro Area | 2005 – 2016

S5 12,000 Larger Condominium Projects That May Start Construction In 2016 Sub MD District No VA S6 Washington Metro Area 10,000

S7 Name of Project Submarket # of Units 8,000 S8 1745N Central DC 68 Normalized Demand Range 2501 M Street Central DC 59 S9 6,000 The McIntyre Mideast DC 77 S10 4,000 50 Florida Avenue Cap East DC 166 Market Rate Units Yards Condo Cap East DC 135 2,000 818 Potomac Ave SE Cap East DC 55 4707 Columbia Pike Arl/Alex 78 0 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 The Signet Ffx/FC 103 The Enclave Ffx/FC 80 Source: Delta Associates; February 2016. Stone Ridge Phase 15B Lou/PW 219 Crown Mont 128 Pike & Rose Condos Mont 104 Momentum | Shady Grove Mont 99

Source: Delta Associates; February 2016.

Since 2009, when the credit and housing crisis shut off the development pipeline, the number of deliveries has consistently been below the normalized annual sales range of 2,300 to 3,300 units. Deliveries in 2015 increased to 2,228 units, the highest annual total since 2009. However, in 2016, only about 1,000 units are expected to deliver – well below the forecasted level of demand.

S7 | 68

The Washington Area Condominium Market

Deliveries in 2015 increased to 2,228 units, the highest annual total since “ 2009. However, in 2016, only about “ 1,000 units are expected to deliver – well below the forecasted level of S1 demand. S2

S4 Sales Pace

S5 During 2015, 867 new units began selling in the metro area, about half of the level of 2014. Of all new market entrants, 34% of units have been sold, compared to 28% during 2014. Projects that sold S6 out since 2014 have averaged 2.5 sales per month, while those that started selling during 2015 have S7 averaged 2.6 sales per month.

S8 Condominium Market Outlook

S9 A shortage of new condo units persists in the market, as the number of actively marketing units is now about 15% of what it was at the peak of the last cycle. Conversions are not likely to play a signif- S10 icant role in this cycle as they did in the last, especially in suburban jurisdictions. Unlike the previous cycle when many apartment projects converted to condos or “switched” midway through construction to become condos to meet demand, the inventory of apartment product this time around is ill-suited for conversion because of location or project scale – most sponsors and capital sources do not have the appetite to work through such large and extended sell-out programs. There are some newer 80- to 150-unit Class A apartment buildings that could be candidates for conversion — these total 2,217 units in 21 projects under construction. Larger projects are not likely candidates due to the amount of time needed to pre-sell at least half of the units before settlements can begin. Conse- quently, the eventual ramp-up of new condo supply will be built largely from scratch, supplemented by smaller conversions of older apartment buildings (mostly inside the Beltway). It will take longer to replenish the condo supply in this cycle since it takes more time for new construction or older building renovation/conversion compared to newer building conversions or pipeline “switches”. • We anticipate price increases in the mid-single digits over the next 24 to 36 months, with price spikes in certain submarkets. • We estimate new unit sales will be 1,600 to 2,100 units in 2016 as more product is brought to market.

S7 | 69 S8 | The Washington Area Retail Market

S10 The Washington Area Retail Market

Washington Area Retail Outlook

RETAIL MARKET FUNDAMENTALS STRENGTHEN IN 2015

Retail continues to be a strong asset type, and the Washington area is among the strongest performing retail markets in the nation. During 2015, the vacancy rate declined and rents increased in Northern Virginia and Suburban Maryland. • Vacancy rates for neighborhood and community shopping centers in Northern Virginia and Suburban Maryland are 5.5% and 7.9%, respectively, down 10 basis points since year-end 2014 S1 in Northern Virginia and down 40 basis points in Suburban Maryland.

S2 • Neighborhood and community shopping center effective rents rose by 2.9% in Northern Virginia since year-end 2014, to $25.75/SF. In Suburban Maryland, effective rents in the same types of S3 centers rose by 1.6%, to $23.32/SF. S4 • Investment sales of grocery-anchored centers was robust – $719.5 million during 2015, which S5 represents the highest total dollar volume for a full calendar year since 2005.

S6 • The region has 917,000 SF of grocery-anchored development underway at 4th quarter 2015 – insufficient to keep pace with demand. S7 The Washington metro area retail market is showing consistent, if modest, improvement. Tenants S8 seeking space are interested in newer, Class A space, and the rise of the District of Columbia as a S9 destination for living, working, and shopping represents a unique opportunity for retailers in the

region. We predict that the trend toward mixed-use projects in core submarkets with a more urban S10 feel will continue for the foreseeable future, although recent plans for new centers – and renovations

of old ones – in the outer suburbs indicate that developers expect lifestyle centers with a sense of place to thrive throughout the region. The region has 917,000 SF of grocery- “ anchored development underway at 4th quarter 2015 – insufficient to “ keep pace with demand.

S8 | 71 The Washington Area Retail Market

National Context Neighborhood/Community Center Vacancy Northern Virginia has one of the lowest neighborhood/community center vacancy rates, after San Select Metro Areas | Third Quarter 2015 Francisco, among large metro areas. The vacancy rate for all types of neighborhood and community centers in Northern Virginia and Suburban Maryland were 5.5% and 7.9% at September 2015, 16%

respectively. This compares favorably to the national average of 10.1%. 14% National Rate = 10.1% 12.1% 12.4% Shopping center retail maintains a relatively low vacancy rate in the region because of: 11.7% 12% 11.2% 11.2% 10.7%

• Steady population growth te

Ra 10% • High incomes 7.9% cancy 8% Va 6.6%

• Low pipeline of new development all 6.0% S1 6% 5.5% The average household income in the Washington metro area increased by 49% from 2000 to 2015, Over S2 4% 3.3% well above the national growth rate of 32%, and it currently exceeds the national average by 61%. S3 By 2020 the Washington metro area’s average household income is projected to increase another 2% 12%, compared to an increase of 14% nationally. The elevated household incomes in the Washington S4 0% area yield greater discretionary spending and support demand for retail goods and space. SF N. VA LA BosSub MD PhxDen HouDFW ChiAtl S5 Source: REIS, Delta Associates; February 2016. S6

S7 Average Household Income Neighborhood/Community Center Space Per Capita S8 jurisdiction 2000 (Actual) 2015 (Actual) 2020 (PROJ.) Washington Metro Area $80,600 $120,456 $135,285 Washington Metro Area Suburbs | 4th Quarter 2015 S9 U.S. $56,600 $74,699 $84,910 18 Metro Average: 16.3 S10 Source: REIS, Delta Associates; February 2016. 17.1 17

16 Retail Market Conditions 15.4 15 The current inventory of existing neighborhood and community shopping centers in the Washing- ton metro area’s suburbs totals 73.7 million SF. Northern Virginia has 40.1 million SF of space in 14 these centers, and Suburban Maryland has 33.6 million SF. On a per capita basis, Northern Virginia Center SF/Capit a 13 leads the way at 17.1 SF per capita in its neighborhood and community centers. Suburban Maryland Neighborhood/Community has 15.4 SF per capita in the same types of centers. For the Washington metro area as a whole, resi- 12

dents enjoy 16.3 SF per capita of neighborhood/community shopping center space. 11

There is 1.1 million SF of shopping center space under construction across all shopping center 10 types in Suburban Maryland and just under 900,000 SF under construction in Northern Virginia at Northern Virginia Suburban Maryland

4th quarter 2015. Suburban Maryland also has 3.1 million SF of planned shopping center space - Source: REIS, Census Bureau, Delta Associates; February 2016. defined as space in centers where plans are drafted, permits and financing have been applied for, and ground breaking is all that remains to take place. This also tops Northern Virginia, which has 2.8 million SF of planned space. Suburban Maryland and Northern Virginia have 5.5 and 4.3 million SF, respectively, of proposed space for which no permits or financing have been applied.

S8 | 72 The Washington Area Retail Market

Vacancy rates for Northern Virginia and Suburban Maryland at December 2015 are 5.5% and 7.9%, respectively, down 10 basis points in Northern Virginia and down 40 basis points in Suburban Mary- Retail Pipeline land from December 2014. While vacancy rates in neighborhood and community centers remain Washington Metro Area Suburbs | All Shopping Center Types | 4th Quarter 2015 elevated relative to their pre-recession averages across the metro area, they have been declining 6 slowly since 2012. Northern Virginia Suburban Maryland

In Northern Virginia, neighborhood/community shopping center vacancy rates at 4th quarter 2015 5 are lowest in the Suburban Fairfax County submarket, at 3.9%, and highest in Arlington/Alexandria,

at 7.0%. In Suburban Maryland, vacancy rates are lowest in the Bethesda/Silver Spring submarket, 4 at 4.4%, and highest in South Prince George’s County, at 12.0%. Neighborhood/community center vacancy rates in Suburban Maryland were 34% higher than in Northern Virginia at their respective 3 S1 cyclical lows in 2007, and the difference between the two substate areas remains pronounced. As of 4th quarter 2015, vacancy rates in Suburban Maryland were 43% higher than those in 2 S2 Northern Virginia. Millions of Square Feet S3 Effective rents in neighborhood and community shopping centers have been climbing slowly since 1 2010, and this pattern continued in 2015, with effective rents rising 2.9% in Northern Virginia and S4 0 1.6% in Suburban Maryland. Average effective rents at December 2015 are highest in Northern Under Construction PlannedProposed S5 Virginia, at $25.75 per SF. In Suburban Maryland, average effective rents are $23.32 per SF. Source: REIS, Delta Associates; February 2016. S6

S8 Vacancy Rates Washington Metro Area Suburbs | Neighborhood/Community Centers | 1999 – 2015 S9 10% S10 Northern Virginia Suburban Maryland 9%

3% Shopping Center Vacancy Rate 2%

1% 2 7 8 2 3 0 05 1 14 15 0 00 00 01 0 0 1999 2000 2001 20 2003 2004 2 2006 2 2 2009 2010 2011 20 2 2 2

Source: REIS, Delta Associates; February 2016.

S8 | 73 The Washington Area Retail Market

PHOTO Effective Rents Washington Metro Area Suburbs | Neighborhood/Community Centers | 1999 – 2015

$30 Northern Virginia Suburban Maryland $28

$26

$24

$22 S1

S2 Effective Rent Per SF $20

S3 $18

S4 $16 3 5 8 9 0 1 2 3 5 0 04 0 0 1 1 1 0 00 01 01 1999 2000 2001 2002 20 2 2 2006 2007 20 20 2 2 20 20 2014 20 S5 Source: REIS, Delta Associates; February 2016. S6

S8 Grocery-Anchored Shopping Center Scale Washington Metro Area | 4th Quarter 2015 S9 S10 2.3 24.3

Total = 59.0 MSF in 326 Centers Northern VA

Suburban MD

The District

32.4

Note: Estimate; in millions of SF. Source: Delta Associates; February 2016.

S8 | 74 The Washington Area Retail Market

Year-End 2015 Grocery-Anchored Shopping Center Survey Vacancy Rates Delta Associates conducts an annual year-end survey of more than 300 Washington area grocery- Grocery-Anchored Shopping Centers | Washington Metro Area anchored shopping centers and tabulates vacancy and rent data. The adjacent charts summarize the results of our 2015 survey. jurisdiction 2015 2014 Core 5.4% 4.2% Of the total retail inventory in the Washington metro area, 59.0 million SF is in 326 grocery-anchored shopping centers, up from 57.3 million SF in 320 centers one year earlier. New construction in 2015, Inner Ring 4.9% 6.4% especially in the District of Columbia, increased retail inventory 2.2% from 2014. For comparison Outer Ring 3.8% 5.0% to prior years, aggregate statistics presented below are derived from same-center comparisons Washington Metro 4.4% 5.5% between the 2014 and 2015 survey respondents. Core = DC, Arlington, Alexandria The metro-wide vacancy rate for grocery-anchored shopping centers edged down to 4.4% at Inner Ring = Fairfax, Montgomery, Prince George’s S1 Outer Ring = Loudoun, Prince William December 2015, from 5.5% at December 2014. The vacancy rate in Suburban Maryland dropped to Source: Delta Associates; February 2016. S2 5.0% at December 2015, from 6.0% one year ago. Northern Virginia vacancy was 4.0% at year-end S3 2015, down from 5.2% one year ago. District of Columbia vacancy dropped to 2.6% at year-end 2015, down from 4.4% one year prior. Vacancy rates in the inner ring declined 150 basis points, and S4 Asking Rents outer ring vacancy fell 120 basis points, while the core area experienced a 120 basis point increase Grocery-Anchored Shopping Centers | Washington Metro Area

S5 during 2015. jurisdiction 2015 YR % CHANGE S6 Rental rates at grocery-anchored centers increased 2.9% in 2015, after rising 2.3% in 2014. Metro- wide average in-line tenant rents were $35.22/SF at December 2015, compared to $34.24/SF at Core $47.34 2.6% S7 December 2014. Suburban Maryland rents were $35.18/SF, up 2.9% from 2014. Northern Virginia Inner Ring $36.49 2.3% S8 rents were $34.96/SF, up 3.3% from 2014. Within Northern Virginia, grocery-anchored shopping Outer Ring $33.41 3.8%

center rents are highest in Arlington County, at $52.25/SF, and lowest in Prince William County, Washington Metro $35.22 2.9% S9 at $28.37/SF. In Suburban Maryland, rents are higher in Montgomery County, at $43.91/SF, than in Prince George’s County, where grocery-anchored shopping center rents were $26.38/SF at Core = DC, Arlington, Alexandria S10 Inner Ring = Fairfax, Montgomery, Prince George’s

December 2015. Outer Ring = Loudoun, Prince William Source: Delta Associates; February 2016. Core submarkets remain the most desirable in the metro area, as evidenced by their area-leading rents of $47.34/SF, up 2.6% over the year. The inner and outer rings also experienced strong rent growth, at 2.3% and 3.8%, respectively. “

Core submarkets remain the most desirable in the metro area, as evi- “ denced by their area-leading rents. Grocery-anchored shopping center asking rents fluctuate dramatically across jurisdictions, but certain anchor tenants allow centers to command consistently higher rents. Centers with a high-end grocery anchor, defined in this survey as Fresh Market, Harris Teeter, MOM’s Organic Market, Trader Joe’s, Wegmans, or Whole Foods, receive an average non-anchor rent premium of 25.4% across the

S8 | 75 The Washington Area Retail Market

Washington metro area over grocery-anchored shopping centers with a more traditional grocery anchor. This premium, while impressive, likely overstates the degree to which high-end grocers influ- In-Line Asking Rent by Type of Grocery Anchor ence shopping center rents. High-end grocers choose their locations carefully. They tend to select Washington Metro Area centers where rents would be above the metro average regardless of anchor, and they tend to sign leases in newer centers. $50.00 High-End Grocers All Other Grocers In Northern Virginia, centers with high-end grocery anchors had average non-anchor asking rents $45.00 of $39.78/SF, a 20.1% premium over centers with all other grocery anchors at December 2015.

Average rents at similar high-end centers in Suburban Maryland were $44.92/SF, a 32.2% premium $40.00 over other centers. In the District of Columbia, where most high-end grocers have no auxiliary retail

space, high-end anchor centers only command a premium of 3.4%. $35.00 S1 New Development $30.00 S2 There are seven notable grocery-anchored shopping centers, totaling 575,000 SF, under construction Average Asking Rent Per SF S3 in the metro area at December 2015, and many more are in the planning stages. $25.00 • In October 2015, Walmart opened its new store at Fort Totten Square. At 120,000 SF, it is the S4 $20.00 largest Walmart in the District of Columbia and includes 50,000 SF of grocery space. The Northern Virginia Suburban Maryland District S5 mixed-use project also has 345 rental units and four other retail storefronts. High-End Grocers include Fresh Market, Harris Teeter, MOM’s Organic Market, Trader Joe’s, Wegmans, and S6 • In December 2015, Aldi opened its first location in Alexandria, completing renovations to a Whole Foods. Source: Delta Associates; February 2016. S7 24,000 SF space at Seminary Plaza.

S8 • MOM’s Organic Market opened two new locations in the last quarter of 2015 as part of the mixed-use projects at Verde Pointe in Arlington and the Hecht’s Warehouse in the District. S9 Grocery-Anchored Shopping Center Sales Washington Metro Area Suburbs | 2004 – 2015 S10 Notable Grocery-Anchored Shopping Centers $600 Under Construction | Washington Metro Area | December 2015 Northern Virginia Suburban Maryland

$500 Shopping Center JURISDICTION RBA ANCHOR

Regency Center Rt. 28 Fairfax 180,000 Wegmans $400 Dunn Loring Metro Fairfax 125,000 Harris Teeter Apollo H Street District 75,000 Whole Foods $300 301 West Broad Falls Church 60,000 Harris Teeter

Sales in Millions $200 Bowie Marketplace Bowie 50,000 Harris Teeter 8300 Wisconsin Bethesda 50,000 Harris Teeter $100 800 New Jersey Ave. SE District 35,000 Whole Foods

Total: 575,000 $0 2004 2005* 2006 2007 20082009 20102011 2012 20132014 2015 Source: Washington Business Journal, Washington Post, Delta Associates; February 2016. Total: $342 M$796 M$401 M $429 M $85 M $79 M$178 M $454 M $476 M $644 M $309 M$719 M

* Includes large portfolio sale by CalPERS. Note: Excludes properties under contract. Source: Real Capital Analytics, graphic by Delta Associates; February 2016.

S8 | 76 The Washington Area Retail Market

Investment Sales Investment Worthiness Index The dollar volume of investment sales of grocery-anchored shopping centers in 2015 totaled $719.5 Grocery-Anchored Shopping Centers | Washington Metro Area | 2006 – 2015 million ($375/SF), more than double the 2014 total of $323 million ($353/SF). Grocery-anchored center sales in 2015 represents the highest total dollar volume for a full calendar year since 2005. 8.0

All signs point to grocery-anchored centers continuing to be a popular investment in 2016. In our Investment Worthiness Line* 7.0 6.9 year-end 2015 Market Maker Survey, grocery-anchored shopping centers scored the highest of all

property types on the investment-worthiness index. 6.0 Retail Market Outlook: 5.0 As 2016 begins, the Washington metro area’s economy is performing better than it has since 2008, S1 and the retail real estate market is showing consistent, though modest, improvement. Among neigh- 4.0 S2 borhood/community shopping centers, vacancy rates continue to decline, and rents have been

rising steadily since 2010. Tenants seeking space are interested in newer, better quality space, and Investment Worthiness Index 3.0 S3 the rise of the District of Columbia as a destination for living, working, and shopping represents a S4 unique opportunity for retailers in the region. We predict that the trend toward mixed-use projects 2.0 2006 2007 2008 200920102011 2012 2013 20142015 in core, urban submarkets will continue for the foreseeable future. Still, recent plans for new centers S5 – and renovations of old ones – in the outer suburbs indicate that owners and developers expect * A score below 5.0 is considered to have more interested sellers than interested buyers. S6 better-located and better-tenanted lifestyle centers to thrive. Source: Delta Associates’ Market Maker Survey; February 2016.

S7 Retail real estate in the region avoided disaster during the recession and lackluster recovery — remarkable, considering the dual pressures of slow job and wage growth and booming online

S8 merchandising. Now that the demand side of the retail sales equation has improved, we expect S9 improvements in retail real estate to ramp up through 2016.

S10 Retail real estate in the region avoided disaster during the recession and “ lackluster recovery — remarkable, “ considering the dual pressures of slow job and wage growth and booming online merchandising.

S8 | 77 S9 | Capital Markets and Investment Trends

S10 Capital Markets and Investment Trends

Capital Markets and Investment Trends

RECORD TRANSACTION VOLUME AND PRICING IN 2015; EASING AHEAD

2015 was a year of unprecedented sales volume and pricing for CRE assets both locally and nationally. Institutional investors flocked to commercial property markets in light of volatility in other equity investment classes, uncertainty in international securities markets, and depressed bond yields. Healthy economic growth in the U.S. during 2015 was instrumental in encouraging foreign investors to invest capital in U.S. real estate assets. Another factor that spurred CRE investment in 2015 was the long-anticipated interest rate hike by the Fed that finally transpired in December. S1 Looking ahead, CRE assets will remain an attractive option for risk-averse institutional portfolios. S2 Property price growth is likely to ease as interest rates tick upwards. Cap rates, which continued to S3 fall through 2015, likely have hit bottom and will remain stable or slightly increase as the year goes on, and income growth is expected to outpace appreciation for most asset classes. S4 Here are some major themes observed in the investment sales market during 2015: S5 • The boom continues in Washington. It was a banner year for the investment sales market in the S6 Washington metro area. A strong job market, record-setting absorption, sustained rent growth S7 and low vacancy rates drove speculation on the multifamily side of the market. Confidence remained high in future prospects for office assets market, despite current weak conditions. In S8 addition to rapidly growing trading volume, prices for office properties also escalated consid- S9 erably, with multiple sales in central Washington breaking the $1,000/SF barrier. Institutional investors accounted for a large share of transactions, attracted by the region’s strong economic S10 fundamentals and demographics. Foreign investors also continued to invest heavily into Wash- ington real estate. • Escalating volatility in financial markets enhances the appeal of CRE to institutional investors. After years of steady growth during the national economic recovery, the U.S. stock market experienced a period of correction in August 2015. While the market quickly recovered in the subsequent weeks, 2016 began with another major sell-off. Consequently, institutional investors have been allocating larger shares of their portfolios toward real estate. Results from the 2015 Institutional Real Estate Allocations Monitor survey, conducted by Cornell University and Hodes Weill & Associates, LP, indicate that average target allocation by institutional investors to real estate stood at 9.56%, up 26 basis points from 2015. Also, according to the survey, institutional investors are increasingly focusing on value-add investments as opposed to core investments. • Spreads are growing between cap rates for newer office product in core submarkets and older properties in suburban submarkets. Investor demand for Class A office properties in the District’s CBD and East End led capitalization rates downward, with many properties trading at a sub-4.5% cap rate. Class A sales in other District submarkets and inner-suburb submarkets such as Rosslyn and Bethesda closed at record per-SF prices and cap rates under 6%. Meanwhile, prices and cap rates remained stagnant for office product in traditional suburban office parks where rents have been flat and vacancy rates have been on the rise.

S9 | 79 Capital Markets and Investment Trends

• REIT growth slows. After several years of outperforming the broader equity market by a significant margin, REITs delivered total returns of just 2.83% compared to 27.15% in 2014. National Investment Sales of Office Buildings Compared to the 2015 S&P 500 return of 1.4%, U.S. REITs still outperformed the market, but by United States | 2001 – 2015

a much narrower margin. The tepid growth was uneven across sectors, with self-storage and $250 $300 apartment REITs posting the strongest performance and health care and hotel REITs exhibiting Volume the poorest performance. REIT growth was largely held back by uncertainty surrounding the $/SF

$250 Fed’s interest rate hike. Looking ahead, REITs will likely outperform the equity market in 2016 $200 as the U.S. economy expands and demand grows. The impact of the recent rate hike, as well as $200 those of future increases, are not as significant as supposed. The extension of the federal EB-5 $150 “ in Billions program will also help returns, especially since foreign CRE investment is high. $150 $/SF S1 lume $100 Vo $100 al t

S2 To $50 Looking ahead, CRE assets will $50 S3

S4 remain an attractive option for $0 $0 2 4 7 8 9 1 2 3 0 0 06 0 00 00 01 01 01 2001 20 2003 20 2005 20 2 20 2 2010 2 2 2 2014 2015 S5 risk-averse institutional portfolios. Source: Real Capital Analytics, graphic by Delta Associates; February 2016. S6 “ S7 Let’s examine the investment market for commercial real estate in 2015 starting with the big picture S8 and then zeroing in on Washington. What does the market’s performance tell us about 2016? Most Active Capital Sources Investments in U.S. Commercial Real Estate | 2015

S9 Nationally, Sales Volume and Pricing Continued to Climb in 2015 S10 Investors continued to flock to CRE assets in 2015 as they took advantage of a favorable lending environment with historically low interest rates, despite concerns about declining yields and a possible

market bubble. The office and multifamily sectors were the main drivers of activity, but hotels and industrial sectors saw marked growth as well. U.S. office sales volume totaled approximately $142.3 billion during 2015, up from the 2014 total of $125.7 billion. Overall, 2015 office sales volume was more than six times higher than it was at the bottom of the market in 2009. “

64% of foreign investors expect to increase their investment in U.S. real Private Institutional/Equity Fund REIT/Public Foreign Unknown/Other estate in 2016. Note: Excludes portfolio sales and properties under contract; through September 2015. “ Source: Real Capital Analytics, graphic by Delta Associates; February 2016.

S9 | 80 Capital Markets and Investment Trends

For foreign investors, U.S. commercial real estate continues to be an attractive proposition for capital despite concerns over impending interest rate increases, because of the relatively favorable long- Target Allocation for Real Estate term risk-adjusted returns the asset class offers. According to an annual survey conducted by the By Region | 2014 vs. 2015 Association of Foreign Investors in Real Estate (AFIRE), 64% of foreign investors expect to increase 14% their investment in U.S. real estate in 2016. Another 31% say they expect to maintain or reinvest their 2014

2015 1.8% investments, with no major decreases planned. The U.S. remains a leader for attracting global invest- 12% % 1 ment in commercial real estate, with sound fundamentals and robust economic growth. 10.9 10.0% 10% 9.6% 9.4% 9.4% % 8 Market diversity is another core strength of the nation’s real estate market with a variety of prod- 9.0% 8. ucts in both gateway and secondary cities alike. Investors in U.S. markets can choose from a host 8% of assets that fit their risk/return objectives, from predictable returns in core markets to potentially 6% S1 higher-yielding investments in secondary markets. Economic and geopolitical instability overseas cements U.S. real estate’s position as a leading target for equity and debt participants. When com- 4% S2 paring returns in stocks, bonds, and commercial real estate, it is CRE that stands out over the long- Real Estate Investments

S3 term, with an 8.02% annualized total return over the 10 years ending September 2015. Percent of Portfolio Targeted for 2%

S4 Investors are also concerned with the level of risk they must assume when choosing between invest- 0% ments. Periods of market volatility can hamper returns across all asset classes and can spell trouble Global The Americas EMEA Asia Paciﬁc S5 for even the best-diversified portfolios. Increased market volatility in 2015 drove down yields in both Source: 2015 Institutional Real Estate Allocation Monitor, Delta Associates; February 2016. S6 domestic and global securities markets, while returns on U.S. real estate investments rose. Over the long term, CRE continues to provide better risk-adjusted returns than stocks and bonds. S7 At the national level, private equity was the largest source of capital for sales across all product Institutional Net Operating Income (NOI) S8 types, accounting for 38% of total CRE investment, up about 8% from 2014. Foreign sources led Selected Metro Areas | 2003 – 2015 investment growth with an impressive 150% increase over 2014 levels. Institutional investors’ appe- S9 Washington Metro New York U.S. Los Angeles Chicago tite for CRE increased, as evidenced by a 36% increase in 2015. Publicly-traded REITs were the only $25 S10 major capital source to exhibit a decline in investment, with acquisitions dropping off about 2%.

The share of investment activity from foreign sources doubled to 19.4% in 2015 from 9.8% in 2014. $20 Institutions and funds sourced 27.6% of capital, up from 25.5% one year ago, while publicly-listed REITs sourced 18.0%, down from 17.8% one year ago. Finally, the percentage of total capital in- $15 vested by private equity sources declined to 33.3% in 2015 from 39.0% in 2014. $/SF Institutions – already big players in commercial real estate investment are allocating even more to $10 CRE. From 2014 to 2015 the target for real estate increased globally, reaching 9.6% on average across institutional portfolios. The target allocation for Asian institutions rose to 11.8% from 10.9%, $5 while the target allocation for Europe, the Middle East, and Africa (EMEA) declined 120 bps to 8.8%. Notably, institutions in all regions have negative current allocation margins (i.e. their portfolios are $0 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 under-invested in real estate compared to targets). Note: Through September 2015. Washington Metro Office Returns: Weak Short-Term, Strong Long-Term Source: Real Capital Analytics, Delta Associates; February 2016. As national commercial real estate assets produced strong returns, the Washington metro area remained among the nation’s top investment markets. Its 1-year performance declined, however, compared to other cities due to factors including: price spikes, muted rent growth, and concern over the Federal government’s ongoing efforts to reduce its footprint. Institutional Net Operating Income (NOI) rose a tepid 1.3% year-over-year for the 12 months ending in September 2014, compared to a 3.5% rise at the national level.

S9 | 81 Capital Markets and Investment Trends

Office investment returns in the Washington area remain below national averages. 1-year returns for

Washington for the 12 months ending September 2015 averaged just 6.79%, ranking last among Total Returns for Office Assets major metro areas and well below the national average of 13.05%. More positively, the annualized Selected Metro Areas | 12 Months Ending September 2015 10-year total return of 7.23% for the Washington metro area was only slightly behind the national

20% average of 7.79%, underscoring the region’s longer-term strength. We expect enduring investor 10-Year confidence in the region’s ability to produce solid results for long-term real estate returns. 3-Year 15% 1-Year “ 10% We expect enduring investor tal Return 5% S1 confidence in the region’s ability To S2 to produce solid results for long- 0% S3 -5% term real estate returns. NY HouSFLADen WasU.S.Bos DalPhx ChiAtl S4 “ Source: NCREIF, Delta Associates; February 2016. S5 In spite of declining returns, sales volume in the Washington area in 2015 rose to $8.7 billion, up S6 from $7.5 billion in 2014, the third consecutive year of increases. Investors acquiring Washington S7 assets today are primarily focused on a longer-term horizon and the strong fundamentals of the re- Total Investment Returns gion. The region’s office investment sales market has held up remarkably well given the instability of Core Commercial Real Estate | Washington Metro vs. U.S. S8 the Federal government and the region’s subpar economic performance between 2012 and 2014. 12 Months Ending September 2015 S9 With the regional economy back on a growth trajectory, returns and investment sales volume in the 18% region should both be back benefit on firm footing. Washington S10 16% US Amidst a Flurry of Foreign Investment Activity in U.S., Washington Improves 14%

its Position as a Top U.S. Investment Market 12% %

10%

As foreign investors continue to place capital in the U.S., 7 U.S. markets rank among the top 10 in turn

global investor market transaction volume according to a 2015 DTZ Research report. New York led Re 8% al t

the ranking, ahead of London by a $20 billion margin. Washington, D.C. was ranked 8th in the world To 6% and 5th in the United States for overall investment sales volume. The Washington region’s long-term 4% economic stability, strong demographics, a diversified economy, and its role as a world capital make it an attractive choice for foreign investors seeking opportunities in the U.S. 2% 0% The Washington office and multifamily markets also ranked among the top 10 globally in transac- Retail Industrial ApartmentOfﬁce

tion volume. In terms of office investment sales, the Washington metro area ranked 9th worldwide Source: NCREIF, Delta Associates; February 2016. and 6th in the United States. Similarly, the region’s multifamily residential investment sales volume placed 9th internationally and 7th domestically. The Washington area also scored well in AFIRE’s survey of the top investment markets worldwide for 2016. The city climbed one spot since the previous survey, placing 4th in the United States, behind New York, Los Angeles, and San Francisco.

S9 | 82 Capital Markets and Investment Trends

Continuing the pattern of recent years, buyers’ preferred Washington investment targets in 2015 were leased-up office assets or well-located multifamily product – most acquisitions were made with Comparative Investment Sales Volume: Office Buildings plans to hold these well-performing assets for the long term. Total volume for all major product Selected Metro Areas | 2006 – 2015 types was $21.3 billion in 2015, up nearly 50% from $14.6 billion in 2014. All CRE sectors saw mate- $25 rial gains, but multifamily sales posted the greatest increase, climbing to $8.5 billion in 2015 from Chicago $4.1 billion in 2014. Class B buildings in less desirable locations attracted interest for value-add and Los Angeles $20 renovation plays. Washington Office investors were optimistic in 2015, as regional job growth rebounded strongly and the office $15 market finally showed signs of recovery. Office investment volume rose 16% in 2015, to $8.7 billion, compared to $7.5 billion in 2014. Notably, office investment sales volume in the Washington metro lume in Billions $10 S1 area is at its highest level in nearly 10 years. Vo al t To S2 $5 S3 Top U.S. Cities Among Foreign Real Estate Investors in 2016 $0 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 S4 U.S. rank market Note: Excludes whole-company transactions. S5 1 New York Source: Real Capital Analytics, graphic by Delta Associates; February 2016. 2 Los Angeles S6 3 San Francisco S7 4 Washington, D.C. Investment Sales S8 5 Seattle/Boston (tie) Washington Metro Area | 2004 – 2015

S9 Source: AFIRE, Delta Associates; February 2016. $35 Flex/Industrial S10 $30 Retail Multifamily s Top Ten U.S. Investment Volume Rankings in 2015 $25 Ofﬁce

U.S. rank market $20 in Billion 1 New York $15

2 Los Angeles olume V al 3 San Francisco t $10 To 4 Chicago $5 5 Washington, D.C. 6 Dallas $0 2004 2005 200620072008 2009 2010 2011 2012 2013 2014 2015 7 Atlanta 8 Miami Note: Includes portfolio sales and whole-company transactions Source: Real Capital Analytics, graphic by Delta Associates; February 2016. 9 Boston 10 Houston

Source: DTZ Research, Delta Associates; February 2016.

S9 | 83 Capital Markets and Investment Trends

Industrial product has seen market fundamentals improve and speculative construction return due to a lack of available space and increased demand for retail goods, particularly online purchases. Flex/industrial investment sales totaled $1.3 billion during 2015, compared to $1 billion in 2014. Retail investment sales totaled $2.8 billion during 2015, compared to $2 billion during 2014. Given the sturdy performance of grocery-anchored retail and flex/industrial product, we expect to see these two sectors continue to attract investment capital in 2016. We expect that the Washington area will retain its position among the premier long-term investment markets in the nation, even though returns from other major markets have surpassed Washington’s

in recent years. Washington’s still-high pricing and elevated vacancy rate are weakening investors’ returns in the short term, though sales volume has remained strong. Investment sales activity is S1 likely to plateau along with the broader U.S. market, as the current level of sales/price growth is

S2 not sustainable. However, the region’s competitive economic advantages will give it a leg up on its peers around the country. S3 S4 “ S5 We expect the Washington area will S6 retain its position among the premier S7 long-term investment markets in S8 the nation. S9 “ S10

Washington CRE Assets Gained Value, Cap Rates Declined Further in 2015 Class A and trophy office prices in the Washington metro area continued to rise in 2015, despite concerns over near-term property performance challenges and potential overvaluation. Sales prices averaged $430/SF in the Washington metro in 2015, representing the highest average per-SF price since before the recession. This uptick in per-SF pricing has been influenced by the sales of multiple trophy assets that have broken the $1,000/SF barrier. The most notable of these was Jamestown LP’s acquisition of two adjacent buildings at 51 Louisiana Avenue and 300 New Jersey Avenue NW for $1,083/SF. The District of Columbia accounted for the largest share of Washington metro area office sales during 2015, at 40%, but its share was down from 50% in 2014. Northern Virginia accounted for 24% of total sales and Suburban Maryland 8%. The remaining sales resulted from partial-interest and whole portfolio transactions. Notably, Brookfield Property Partners sold an eight-property portfolio in the District and Maryland to an Australian institution for $662 million at a 4.8% cap rate. We expect the District of Columbia to remain the leader in sales volume throughout this cycle as investors are still targeting core downtown assets.

S9 | 84 Capital Markets and Investment Trends

Apartment pricing increased for garden product in 2015, while the average sales price for high- rise product fell. In 2014, the region posted over $1.7 billion of multifamily Class A building sales Class A Garden and High-Rise Apartment Average Sales Price (five low-rise properties and 11 mid- or high-rise properties). In 2015, the metro area saw over $2.5 Washington Metro Area | 2007 – 2015 billion of multifamily Class A buildings trade hands (14 low-rise properties and 12 mid-rise or high $500,000 rise properties). The 2015 average per-unit price was 9.7% higher than in 2014 for low-rise units (at Class A Garden Class A High-Rise $264,462), while high-rise prices fell 14.6% from 2014, at $392,288 per unit. The average price for $400,000 high-rise units has dropped off at a 0.3% annualized rate over the past five years. Unit In the Washington area, average cap rates for all major asset classes declined during 2015. The r $300,000 greatest drop was for Industrial/Distribution (down 80 basis points) and grocery anchored shopping Pe rice

centers (down 48 basis points). Cap rates continued to hover near historical lows amidst a low inter- P $200,000

est rate environment and heavy competition among investors. ales

S1 S $100,000 S2

Washington Area Product Type Basis-Point Change in Cap Rate 10/13-10/14 $0 S3 2007 2008 20092010 2011 2012 2013 2014 2015 Apartments -22 S4 Source: Delta Associates; February 2016. Office -1 S5 Industrial/Distribution +7 S6 Grocery Anchored Shopping Center +16 Survey of Year-End Cap Rates S7 Source: Annual survey by Delta Associates, conducted October 2015, of the region’s leading commercial real estate players. Washington Metro Area | 2009 – 2015

S8 9% 8.9%

Cap rates by property type show that all types in the Washington region experienced a decline in 8.5% S9 8.4% cap rates over the course of 2015, as shown in the accompanying table. S10 8% 7.9% Sales Price vs. Replacement Cost

7.2% 7.2% For the first time since 2010, replacement cost for existing apartments exceeds sales price. Here are 7.2% 7.2% 7.1% 7.0% 7% 6.8% the figures for a Class A high-rise apartment projects: 6.8% 6.7% 6.6% 6.6% 6.4% 6.4% 6.4% Average sales price per unit in 2015: $392,288 6.3% 6.1% Replacement cost in 2015 1/ $398,000 6.0% Average Cap Rate — All Classe s 6% 5.8% 5.8% 5.8% 5.7% 1/ $323,000/unit development cost plus $75,000/unit land cost 5.5% 5.5% Source: Annual survey by Delta Associates, conducted October 2015, of the region’s leading commercial real estate players. 5.3% Ofﬁce Flex/Industrial Apartments Grocery- Anchored SC For downtown office product, replacement cost also exceeds the sale price, although not by much: 5% Average sales price per SF in 2015: $639 2009201020112012201320142015 2009201020112012201320142015 2009201020112012201320142015 2009201020112012201320142015 Replacement cost in 2015 1/ $643 Source: Delta Associates' Market Maker Survey; February 2016.

1/ $493/SF development cost plus $150/SF land cost Source: Annual survey by Delta Associates, conducted October 2015, of the region’s leading commercial real estate players.

Historically low demand for new office space explains the narrow spread between office price and cost. For apartments, the inversion of replacement cost and sales price is a partly a function of the recent abundance of new product being delivered.

S9 | 85 Capital Markets and Investment Trends

Investment Sales Outlook: The Increasing Aappeal of Commercial Real Estate Investment sales activity for office product will continue to intensify in 2016 across a wide variety of markets, driven mainly by foreign Cap Rates: Cap rates declined in 2015, but have likely hit bottom. Federal interest rate hikes likely capital. Investors will be increasingly attracted to Class A product in will contribute marginally to higher cap rates. In the Washington metro area, multifamily and office secondary cities and to Class B assets in gateway cities as they search investments, face their own market dynamics. Record apartment absorption has mostly offset for good deals. Tenant expansion, in line with the growing economy, historically-high deliveries, averting significant occupancy and rent erosion. Office product in the will also help spur demand, and income performance will be increas- region has remained in high demand by investors, even in the face of high vacancy rates. Now that ingly important. Transaction volume in the residential multifamily sec- vacancy has begun to decline and GSA has resumed leasing activity, the market appeal of the DC tor will be sustained by strong income fundamentals and single-family office market should improve even further. We expect the 12-month trailing average cap rate for the supply constraints, particularly in coastal markets. DC metro area will stabilize around 6% in 2016 before beginning to increase again. Trophy assets, however, likely will continue to trade at cap rates in the mid-4% to mid-5% range. The Washington region will again see heavy transaction activity in both S1 the multifamily and office sectors. The office market is becoming Prices: Nationally, we expect modest price growth for the first half of 2016, before stabilization later increasing bifurcated – separating the “haves” and “have-nots.” Build- S2 in the year as the Fed continues to increase interest rates. Demand from institutional and overseas ings with no near-term expirations in superior submarkets are a rare capital sources will continue to place upward pressure on prices, but asset performance will be an S3 commodity in this market, and investors will pay top dollar for such increasingly important factor in valuations in the year ahead. We expect inflation to be greatest in assets. Investors will continue to seek Class B office product in attract- S4 secondary cities as core markets begin to overheat and investors hunt for yield. In the Washington ive, Metro-accessible locations with renovation or conversion to other region, price inflation will likely level off at some point during 2016 as the current level of growth S5 uses in mind. Apartments will still be in favor, even with investors is unsustainable, particularly given the standing of the region’s office market and the ever-present wary of the oncoming new supply, as demographic trends point to S6 threat of oversupply in the multifamily market. We do not anticipate a substantial reset in prices, continued strong absorption. though, as the region’s steadily improving economy and attractiveness to foreign investors keep

S7 buyer interest high. As is the case nationally, income growth will weigh heavily in determining prices. Investors both domestic and foreign will continue to look to Wash- ington CRE due to its solid track record, prospective employment S8 growth, and strong core industries. Critical to success will be recog-

S9 nizing the mismatch between existing product and evolving tenant requirements, whether for office or apartment investment. Identify- S10 Demand from institutional and over- ing unique properties that can satisfy a modern office tenant or an seas capital sources will continue to “ apartment renter will distinguish the savvy investor from the rest of the field. The most successful local investors have already purchased place upward pressure on prices, or developed product that is unique, amenity-rich, and transit-ori- but asset performance will be an ented. Continued success will depend on unlocking the potential of “ underutilized sites in the most attractive locations and/or in emerging increasingly important factor in submarkets. valuations in the year ahead.

Volume: Transaction volume for CRE assets will continue to be strong in the year ahead as increasing real estate allocations in institutional portfolios offset rising interest rates and a tighter lending environment. The market has expected higher interest rates for quite a while, and small incremental increases are unlikely to trigger shocks. Marginally higher interest rates will likely have a positive effect in the short term as they signal renewed confidence in the national economy.

S9 | 86 S10 | 2016 TrendSetter Award Recipients

S10 2016 TrendSetter Award Recipients

2016 TrendSetters

Each year, Transwestern and its consulting affiliate, Delta Associates, honor an individual, or individuals, who have made a noteworthy contribution to the commercial real estate industry as a whole, and to the Washington metropolitan area in particular. This year our TrendSetter honorees are James J. Abdo, President & CEO of Abdo Development; and Deborah Ratner Salzberg, President of Forest City Washington, LLC.

S1 James J. Abdo Deborah Ratner Salzberg S2 President & CEO President S3 Abdo Development Forest City Washington, LLC

S9 Over the past twenty years, Abdo Development has built its reputation as a pioneer- Since joining Forest City in 1985, Deborah Ratner Salzberg has been instrumental in ing, innovative developer of high end residential, commercial and retail projects. securing and progressing major mixed-use development projects for the company S10 Concentrating its activities in emerging neighborhoods around the urban core of in the Washington metropolitan area. Among the most prominent of these are Washington, DC and Northern Virginia, Abdo is particularly well regarded for its Waterfront Station in southwest DC, The Yards in the Capitol Riverfront district and emphasis on historical preservation, bringing distressed, noteworthy structures Ballston Quarter in Arlington, VA. back to life without sacrificing their authenticity. All of these massive, groundbreaking projects feature the many elements that have As Founder, President and CEO, Jim Abdo has been at the forefront of this effort to come to define Forest City’s success: transformation of underutilized urban areas; revitalize buildings and neighborhoods often bypassed by others. By focusing on adaptive reuse of historic structures, creative use of public-private partnerships; adaptive reuse in all projects, Abdo has proven adept at preserving the past while innovative architectural designs; and the creation of vibrant, thriving neighborhoods building modern, new communities. where individuals live, work, shop and play. In addition to serving on the Boards of a host of business and charitable founda- Beyond her myriad professional accomplishments, Deborah has taken an active role tions, Jim has received numerous awards for his responsible approach to urban in countless community, charitable and business organizations both in the Wash- development. For his pioneering vision and resolute commitment to revitalizing ington, DC region and nationwide. For her distinguished leadership and exemplary neighborhoods, we are very pleased to honor Jim Abdo as this year’s TrendSetter record of service, we are very pleased to honor Deborah Ratner Salzberg as this of the Year. year’s TrendSetter of the Year.

S10 | 88 A Region in Transition

Past TrendSetter Award Recipients

S1 Mark D. Lerner Mitchell N. Schear George Carras Doug Firstenberg Michael Stevens Robert J. Murphy 2015 Private Company 2015 Public Company 2014 Private Sector 2014 Private Sector 2014 Public Sector 2013 Private Sector S2 TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year Principal President Founding Principal Founding Principal President Managing Principal S3 Lerner Enterprises Vornado/Charles E. Smith StonebridgeCarras StonebridgeCarras Capitol Riverfront Business MRP Realty S4 Improvement District

S10 William B. Aslup III George F. McKenzie Gerald L. Gordon, Ph.D. Doug Donatelli Elizabeth Price Thomas S. Bozzuto 2013 Private Sector 2012 Private Sector 2012 Public Sector 2011 Private Sector 2011 Public Sector 2010 Private Sector TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year Senior Managing Director President and CEO President and CEO Chairman and CEO President Chief Executive Officer Hines Washington Real Estate Fairfax County Economic First Potomac Realty Trust NoMa Business The Bozzuto Group Investment Trust Development Authority Improvement District

James E. Bennett W. Christopher Smith, Jr. Donald Wood Oliver T. Carr, III Benjamin Jacobs Michael Glosserman 2010 Public Sector 2009 Private Sector 2009 Public Sector 2008 TrendSetter of the Year 2007 Private Company 2007 Private Company TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year President & CEO TrendSetter of the Year TrendSetter of the Year President & CEO CEO President & CEO Carr Properties Managing Partner Managing Partner Metropolitan Washington Airports William C. Smith & Co. Federal Realty Investment Trust The JBG Companies The JBG Companies Authority

S10 | 89 A Region in Transition

Past TrendSetter Award Recipients

S1 Andrew Florance Milton Peterson F. Joseph Moravec John E. (Chip) Akridge Congressman Tom Davis Bryant F. Foulger 2007 Public Company 2006 TrendSetter of the Year 2005 Public Sector 2005 Private Sector 2004 Public Sector 2004 Private Sector S2 TrendSetter of the Year Chairman TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year Founder, Director, The Peterson Companies Commissioner Chairman 11th District of Virginia Principal and Vice President S3 President & CEO GSA Public Buildings Service Akridge Real Estate Services U.S. House of Representatives Foulger-Pratt Companies S4 CoStar Group, Inc.

S10 Clayton F. Foulger Douglas M. Duncan R. William Hard Anthony A. Williams Robert Gladstone Thomas M. Garbutt 2004 Private Sector 2003 Public Sector 2003 Private Sector 2002 Public Sector 2002 Private Sector 2001 Institutional TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year Principal and Vice President County Executive Executive Vice President and Mayor Chairman Managing Director Foulger-Pratt Companies Montgomery County Principal-In-Charge, LCOR District of Columbia Quadrangle Development TIAA-CREF

Michael J. Darby Jeffrey T. Neal Ray D’Ardenne Daniel T. McCaffery Robert E. Burke Raymond A. Ritchey 2001 Entrepreneurial 2001 Entrepreneurial 2000 TrendSetter of the Year 1999 TrendSetter of the Year 1998 TrendSetter of the Year 1998 TrendSetter of the Year TrendSetter of the Year TrendSetter of the Year Chief Operating Officer President Executive Vice President, Executive Vice President, Principal Principal Lend Lease Real CCR McCaffery Operations Head of the Washington, D.C. Monument Realty, LLC Monument Realty, LLC Estate Investments Developments Boston Properties Office & National Director of Acquisitions and Development Boston Properties

S10 | 90 A Region in Transition

Delta Associates thanks all of our 2015 Market Maker Survey participants, among whom are the following:

1788 Holdings Crimson Partners Johns Hopkins University Rentals Gone Wild

AHC Inc. Davis Construction LaSalle Investment Management Ridgeline Property Group

Aimco DFS Group LCOR Saul Centers

S1 Avison Young Ditto Residential Lowe Enterprises Standard Properties S2 Bank of Montreal The Donohoe Companies M&T Bank StonebridgeCarras, LLC S3

S4 Berkadia DRI Development Services McCaffery Interests TF Cornerstone Inc

S5 Bernstein Management Corporation Eastdil Secured McEnearney Associates The Bozzuto Group S6 Blake Real Estate First Capital Realty MetLife The Cornell Group S7

S8 Brookfield Properties Fore Property Company Montgomery County Planning Department The Donaldson Group

S9 Buvermo Properties Forge Company Morgan Ventures The Hanover Company S10 Cafferty Commercial Real Estate Services Gimbert Associates LLC MRP Realty The Penrose Group

CBRE Gosnell Properties New Market Real Estate Group Trammell Crow Company

Charles R. Hooff, Inc. Hord | Coplan | Macht NGKF TSC Realty

Chevy Chase Land Company Insight Property Group, LLC Paramount Group, Inc. Walker & Dunlop

CityInterests Jefferson Apartment Group Perkins Eastman Washington Fine Properties, LLC

Clarion Partners JM Zell Partners Ltd. PMRG West, Lane & Schlager

Clark Enterprises, Inc. John B. Levy & Co. Rappaport ZOM

Clemente Development Company John Hancock Reed Smith

S10 | 91 vision can make extraordinary properties a reality.

PNC REAL ESTATE | Successful commercial real estate owners, developers and investors can envision the properties of the future — even before the first sketch is made. PNC Real Estate shares that vision. As a top five originator,* we offer comprehensive banking insights, solutions and the expertise to put them to work. Whether you need construction, bridge or permanent financing; public equity or debt solutions; treasury management; risk mitigation; or loan syndications, know that we can help bring your vision to life.

To learn more, visit pnc.com/realestate.

REAL ESTATE BANKING | AGENCY FINANCE | TAX CREDIT CAPITAL | MIDLAND LOAN SERVICES

*Top 5 in originations among banks, MBA 2014 ◊ PNC, PNC Bank and Midland Loan Services are registered marks of The PNC Financial Services Group, Inc. (“PNC”). Treasury management and lending products and services, and investment and wealth management and fiduciary services, are provided by PNC Bank, National Association (“PNC Bank”), a wholly owned subsidiary of PNC andMember FDIC. Investment banking and capital markets activities are conducted by PNC through its subsidiaries PNC Bank, PNC Capital Markets LLC, Harris Williams LLC, Harris Williams & Co. Ltd. and Solebury Capital LLC. Services such as public finance investment banking services, securities underwriting, and securities sales and trading are provided by PNC Capital Markets LLC. PNC Capital Markets LLC, Harris Williams LLC and Solebury Capital LLC are registered broker-dealers and members of FINRA and SIPC, and Harris Williams & Co. Ltd. is authorized and regulated by Financial Services Authority (FRN No. 540892). PNC Bank and certain of its affiliates, including PNC TC, LLC, do business as PNC Real Estate. Through its Tax Credit Capital segment, PNC Real Estate provides lending services, equity investments and equity investment services relating to low income housing tax credit (“LIHTC”) and preservation investments. PNC TC, LLC, an SEC registered investment advisor wholly-owned by PNC Bank, provides investment advisory services to funds sponsored by PNC Real Estate for LIHTC and preservation investments. Registration with the SEC does not imply a certain level of skill or training. This material does not constitute an offer to sell or a solicitation of an offer to buy any investment product. Lending products and services, as well as certain other banking products and services, require credit approval. ©2016 The PNC Financial Services Group, Inc. All rights reserved. CIB RE REB PDF 1215-0102-212801

Building a legacy through real estate. Congratulations to the TrendLines® 2016 TrendSetters: Deborah Ratner Salzberg of Forest City Enterprises and Jim Abdo of Abdo Development!

Baker Tilly is a proud sponsor of Transwestern TrendLines®. We serve as Valued Business Advisors to the real estate community through clear insight, candid advice, and tailored solutions.

Connect with us: bakertilly.com

Partners in Excellence

Transwestern is the Mid-Atlantic Region’s preeminent full-service commercial real estate firm. Delta Associates, an affiliate, is a national provider of industry information, market analysis, and feasibility consulting for commercial real estate.

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