As we draw closer to the end of the year, and in presence of clearly apparent headwinds and tailwinds, it is important to take stock of the overarching trends and sentiments that are shaping real estate markets nationally and globally.
Stormy waters have persisted throughout much of the world. During the year, the global economic growth rate was downgraded three different times, to a recent level of 2.7%. Although still positive, the 2022 growth rate is at its weakest level since 2001. The decline can be attributed to myriad factors, including the war in Ukraine (and the threat of military conflicts in other parts of the world), the intensity of inflationary pressures being experienced throughout the world, and increasing energy prices. Not to be overlooked are the fears of a global recession, accentuated by economic conditions in China.
These factors, among others, have made 2022 more turbulent than anyone expected.
In spite of these conditions, as well as our own domestic issues, the U.S. continues to be regarded as a safe haven for investing—especially during times of turmoil. In fact, the U.S. continues to attract approximately 70 percent of the capital being invested in commercial real estate.
The confluence of inflation and interest rates have been a powerful force for commercial real estate (CRE) investors, developers and owners to overcome in 2022. With the Fed’s most recent interest rate hike, mortgage rates are at a 20-year high at 7.27%. At the same time, they are approximately 50 basis points below the historical average of 7.76%. Further, because 25% of all commercial mortgage-backed security (CMBS) loans have a floating rate component, properties across all sectors face increasing challenges and may even find themselves in a position of negative leverage which could portend to significant future financial distress.
In contrast to the uncertainty that inflation and interest rate volatility create, the employment sector, at least for now, continues to provide a certain degree of balance. While the unemployment rate is 3.7%, a positive sign for the U.S. economy, the labor force participation rate has reached a 45-year low of 62.2% (excluding the post-pandemic period). While this can be attributed in part to the aftermath of COVID-19 and the Great Resignation, the rate has been trending downward since 2001. Other factors that continue to give at least some semblance of hope include a continued increase in the level of onshoring.
Thirty months past the original COVID-19 lockdown, we continue to live, work and play in a world that has been heavily shaped by the pandemic. Its impact significantly accelerated the trajectory of issues and trends occurring in different CRE sectors. For some, namely the multifamily and industrial sectors, that trajectory was generally positive. For others, such as the office sector, the impact has been negative and may in fact pose a threat to the greater urban office ecosystem. And somewhat surprisingly, the pandemic’s impact on the retail sector helped to accelerate a transformation that has created opportunities.
Among the trends and observations worth noting include:
With a recession of unknown duration growing more imminent, the important lesson learned over the last 24-30 months become increasingly important. Flexibility, patience and innovation have allowed the CRE industry to perform in a supercharged manner, during times of great challenge. Many believe this focus on flexibility, patience and innovation has shown us what we can get through.