Catastrophic weather events not only make headlines but also raise red flags for potential investors and home buyers. Research suggests that the impacts of intensifying climate events are influencing real estate investment decisions. Residential pricing is reflecting growing public concern, and the effects could be even more pronounced for commercial values in vulnerable areas, according to a 2019 report from the Urban Land Institute and global investment management firm Heitman.
The report’s conclusions were based on interviews with institutional investors, investment managers, consultants, and other stakeholders. “Speaking to these leaders in the industry, it became increasingly clear that there’s an awareness of the impact on real estate, both in terms of damage and value fluctuations,” says Katharine Burgess, vice president of urban resilience at the Urban Land Institute. “For agents to be fluent in these issues and understand what risks exist and what types of design interventions can help is really important.”
Determining the level of risk for a potential buyer isn’t an easy calculation. When it comes to flood risk, for example, many of the Federal Emergency Management Agency’s risk maps are outdated and don’t include sea level rise projections, says Rachel Cleetus, policy director for the Union of Concerned Scientists’ climate and energy program. A 2018 analysis by the group predicted “chronic, disruptive flooding”—a term used to describe 26 or more flood events in a given area annually—in hundreds of U.S. coastal communities by 2045.
When Insurance Isn’t Enough
Insurance has long been the main safety net for property owners, but investors and managers interviewed for the ULI report say relying solely on insurance may not be sufficient. “There’s increased recognition that while insurance can protect against damage, it’s never going to protect against a fundamental change in real estate value,” Burgess says.
However, ingenuity might, and that’s just what some architects, developers, and planners are counting on in their drive to future-proof properties—in other words, make them more resilient to punishing climate conditions. Burgess says developers are focusing on resiliency and sustainable planning to differentiate their properties for tenants. Respondents to the ULI survey cited “commercial success from talking about business continuity for buildings that are better prepared for hurricanes or reduced likelihood of losing power,” Burgess says.
Keeping Businesses Operating
One real estate professional who’s involved in the resilience movement is Mark Luke, GREEN, broker-owner of Mark Luke Real Estate, who also runs a construction business in Sioux Falls, S.D. He installs backup generators as a power redundancy and sump pumps to prevent basement flooding; he has also started selling solar panels after identifying solar energy as an underserved market.
Luke has been seeing more interest in these options because of the extreme weather conditions in South Dakota, which experienced historic river flooding and two intense “bomb cyclone” winter storms in recent years. One storms dumped more than 30 inches of snow in some parts of the state and knocked out power to more than 80,000 homes and businesses in the upper Midwest. The region is home to many food production companies and other industries for which business continuity is critical.
That’s why Luke is trying to encourage more of his clients to install backup generators. At least two, he says, would benefit from backup power. One owns a food processing business that needs to keep its freezers running. Another is a plastics manufacturer that incurs $50,000 in expenses every time there’s a glitch in the power supply. “There are all kinds of businesses that are reliant on power and need a backup generator in case things go haywire,” he said.
These extras don’t come cheap, though. Solar panels, for example, can cost a commercial enterprise hundreds of thousands of dollars and typically take six or seven years to pay for themselves, depending on the size of the building. (The average cost to homeowners is far less, but they’ll still wait years to realize the return on investment.) Alternatively, property owners may lease solar panels, but these financing arrangements can lead to complications when it comes time for the owner to sell. Backup generators also vary in price, ranging from $1,500 to $25,000 for a portable generator or as much as $125,000 for a large standby unit that can power a big building or medical facility. But businesses could see returns sooner than they might expect. “If your area was down because of a power outage, and you were able to stay open because you had some solar or backup power, what’s that worth?” Luke says. “That business might have been closed for a couple of days without it.”
While fortifying properties is an important future-proofing strategy, resilience also needs to happen at the macro level, says Emilie Mazzacurati, founder and CEO of Four Twenty Seven, a company that conducts climate risk assessments for corporations and governments around the world. She points to the community of Mexico Beach, Fla., where an estimated 80% of the structures were damaged by Hurricane Michael in 2018. “That’s going to affect the price of houses,” Mazzacurati says. “[The conversation] needs to be about more than investing in your own resilience. The community needs to be investing in resilience as well.”
The city of Somerville, Mass., conducted a climate change vulnerability assessment in 2016, and Craig Foley, GREEN, 2019 chair of the National Association of REALTORS®’ Sustainability Advisory Group, took part. Foley has been urging other real estate professionals to get involved on the local, state, and national levels. “Resiliency has to be part of the discussion—in terms of both resilient building strategies and resilient communities—as we start to move this ball forward,” says Foley, chief sustainability officer for LAER Realty Partners and founder of Sustainable Real Estate Consulting Services in Melrose, Mass.
It’s a conversation where lines can quickly be drawn, because even a small change in building codes can drive up costs and, thus, reduce affordability. At a gathering of the building industry in Louisville, Ky., in 2016, civil engineers proposed a modest code change to reduce the risk of roof loss in hurricanes, according to Insurance Journal. The measure was voted down, the Journal said, after homebuilders opposed it.
The answer, Mazzacurati says, is to create financial incentives, much like energy efficiency programs have done. “If you want your community and market to still be there and thriving in 10, 15, 20 years, it’s smart to talk about it now,” she says.
A Case for Riskier Investments
In cities like New Orleans, future-proofing is something of a pastime. The city is 14 years out from Hurricane Katrina, and many homeowners have rebuilt and fortified their properties with home elevations, storm shutters, stormproof windows, and subsurface draining systems. Federal guidelines require that newly constructed homes and buildings are constructed above the base flood elevation line.
Flood risk hasn’t scared away investors, says Liz Wood, SRS, broker-owner of Liz Wood Realty in New Orleans. Interest has been high since Katrina, and Wood doesn’t see that changing anytime soon. “People move here for the culture almost 100%,” she says.
Wood says several of her clients have seen substantial returns on their investments. That’s especially true right now in the Gentilly neighborhood, which took on eight feet of flooding in some areas during Katrina. For a home just minutes from the trendy French Quarter, Gentilly investors will find prices 30% to 40% below market rate. “Investmentwise, it’s hard to find a house this cheap in a major city,” Wood says.
New Orleans buyers aren’t alone. Of the investors interviewed in the ULI/Heitman study, none had decided to stop investing in certain cities prone to climate risk. However, many were taking a more granular approach to understanding risks. “Some investors were looking to diversify within markets, and others were looking at how to protect and mitigate at the property level,” Burgess says.
One of the key findings from the study, Burgess says, is that in the next five to 10 years, the industry will become more advanced in pricing climate risks and understanding how to address them. Conversations about the need for climate risk disclosures are already underway in some markets.
“There’s increasing awareness of these issues among investors. And over time, we’d assume this awareness will reach all the way to tenants, future owners, and future occupants,” Burgess says.