Spring 2023 Commercial Real Estate Market Update
Despite high interest rates and a “more likely than not” recession,” there is still potential for growth and opportunities in the market this spring. Here are a few high-level takeaways to consider.
Interest Rate Outlook
Yesterday’s Fed meeting proved that the central bank is considering all data points when determining where they should take interest rates. As the labor market begins to contract and inflation slowly continues to fall, the Fed may (hopefully) soon put a pause on rate hikes. Though the 25 bps increase during the March 22nd meeting will move the Fed funds rate to an effective 5%, the Fed is steadfast in its belief that the economy needs to cool before they can take their foot off the gas entirely. There is still a plan for another 25 bps hike later this year (2023).
The collapse of Silicon Valley Bank and Signature Bank stirred unease throughout the financial markets last week, and although there was a moment where people believed the Fed would completely stop their rate hikes, the closure of those financial institutions oddly worked in favor of the Fed. Local and regional banks now are more likely to pull back or raise the costs of their lending, which the Fed thinks may aid in their fight to cool economic activity and bring inflation down further.
Office Sector Outlook
Due to increased remote work, CBRE predicts companies may not meet their office space expectations in 2023, resulting in up to 15% less office use per employee. As a result, companies may consolidate office spaces into higher-quality buildings, which has the potential to benefit the owners of these types of buildings.
“The challenge,” according to Andrew Dance, managing partner of Brand Atlantic Real Estate Partners, “is delivering offices where people want to work from more than they want to work from home...” Conversely, investors and owners of older buildings with dated features may have trouble attracting tenants in 2023.
It’s also interesting to note that in a recent survey by WMRE, more than 60% of respondents said suburban office properties were more attractive than urban properties, down from more than 70% one year ago.
Retail Sector Outlook
Retail success has always been about location and category. In 2023, neighborhood shopping centers in densely populated neighborhoods are likely to perform well, as they provide convenience for local residents. Additionally, many cities are redeveloping B- and C-class spaces to offer unique experiences for residents and visitors.
Multifamily Sector Outlook
Vacancies in multifamily reached a five-year low of 4.4% in the third quarter of 2022, making it the best-performing asset class. Unlike other asset classes, multifamily investors and owners can adjust rents periodically to account for market changes.
As demand for multifamily and workforce housing continues to outpace supply, investors should look for ways to generate affordable housing options, such as modular construction, adaptive reuse of buildings, and mixed-use properties. Accessory Dwelling Units (ADU’s) are all the rage in California as the state passed State Bills 9 and 10 in 2021 which authorizes local governments to rezone neighborhoods to increase housing density in an effort to help with the state’s housing crisis. Many investors with excess capital resources are buying properties and are building ADU’s on them.
Industrial Sector Outlook
Despite rising interest rates and ballooning inflation, the industrial sector remained a top performer in commercial real estate in 2022. Onshoring and e-commerce were two major drivers, as retailers of all sizes fueled the growth of distribution facilities.
In 2023, “Tenants will continue to seek well-located Class A industrial space. Modern spaces with high ceiling heights and abundant truck docks will succeed,” believes HSA Commercial Real Estate CEO and Vice Chairman Robert Smietana.
Self Storage Outlook
Demand for self-storage remains stable throughout the country. Historically, self storage is a counter cyclical asset class to broad economic activity and as household demographics change and people relocate and downsize to other areas in the country, storage seems to be a place where investors are looking for longer term potential.
Worth Noting: Sustainability and Technology
In 2023, sustainability will be a major focus in commercial real estate as governments at the federal and state levels are expected to mandate and incentivize green building initiatives, directly impacting the industry.
Similarly, the growth of PropTech and AI platforms, like ChatGPT, will continue to shape the industry, increasing efficiency, transparency, and convenience for landlords and tenants.
Conclusion:
Commercial real estate, though faced with possible headwinds, appears to have the potential to be resilient even through the rising interest rate environment we’ve seen recently. For investors who are looking for 1031 exchange opportunities or are interested in finding a place to park cash, commercial real estate may be worth considering for longer term investing.