LightBox conducts a bi-annual industry-wide survey to help us understand how our clients feel about the business landscape and to reveal their expectations for the future. The recently published Fall 2022 Investor Sentiment Report has some eye-opening conclusions. Michael Griffin, managing director of broker solutions at LightBox, recently hosted a LinkedIn Live event on October 27, 2022, with industry experts to discuss the sentiment report and current trends. He was joined by Dianne Croker, principal analyst at LightBox; Sean Fulp, vice chair and head of office capital markets at Colliers; Laura Nguyen, director of investor relations and marketing at Sentinel Net Lease; and Jeffrey Cole, executive vice chairman, capital markets group at Cushman & Wakefield.
Below are some highlights from their live conversation:
Dianne Crocker: Market conditions shifted dramatically from predictions made earlier this year. The third quarter marked a turning point in market confidence, reflecting the abrupt increase in interest rates. Many of our clients saw a decline in their third-quarter business activity. There’s certainly more caution in the market than optimism. One thing that surprised me in the report is that respondents were more concerned about the balance of 2022 than with what lies ahead in 2023. That suggests that we’re seeing a short term tap on the brakes as opposed to something more worrisome and long term.
Sean Fulp: Companies are starting to make decisions about the workspace, but we still need more clarity. The key word is flexibility. We’re seeing flex schedules, hybrid work models, and companies using flex space—they might use office space one way on Monday, and a completely different way on Wednesday. That’s going to change how offices are designed. I see it as an evolution. There’s going to be disruption, and a lot of expense to reinvent the way offices work, but I think the future of the office segment is promising.
In the Midwest, some offices in high-density urban areas were vacating completely, but in others, employees were still coming in three days a week. Some areas, such as Florida, never had vacancies. We’re starting to see leases coming due for renewal that give tenants an option to renegotiate should their needs have changed. And because of the new ways employees are working, firms are looking for less space, improvements to lobbies, or other amenities for their staffs.
Jeffrey Cole: Institutional investors are increasingly aware of economic concerns. Investors are deferring on long-term leased assets with annual increases. On the West Coast during the past 120 days, long-term single-tenant lease assets have been hit with about a 150 basis-point rate increase—and that’s significant. The important thing about industrial versus office is that industrial markets are fundamentally still performing strongly. Almost every major market in the West Coast has historically low vacancy, yet they’re seeing strong absorption and rising rental rights. I would say industrial is still relatively attractive, especially short-term rollover projects.
Dianne Crocker: The “R word” comes up in every client conversation. The market is putting out so many conflicting signals. There’s persistent inflation, but we’ve got a very hawkish Fed trying to control it. Corporate earnings haven’t really taken a hit yet and unemployment is still low. Consumer spending is resilient, and numerous statistics suggest we’re probably not in a recession. But the reality is we don’t know where the Fed is going to land with rates—though it’s a safe assumption they’ll keep rising. Access to debt capital will be limited, affecting the buyer’s pool, and some investments will be less viable. You can no longer assume price appreciation is a foregone conclusion in some sectors, a pretty significant change. The best you can do is remain prepared in a murky market. Our clients are bracing for the worst and hoping for better. In my opinion, there’s always opportunity in commercial real estate and in times of uncertainty, there’s a real flight to quality.
Sean Fulp: Office fundamentals are softening, vacancies are rising, rates are going down, and sentiment is worsening. We expect that B-level buildings will struggle, but well-located, higher-quality office buildings will thrive. As an asset class, office takes more capital to operate, and if the valuations aren’t there, investors and lenders won’t make moves. Liquidations should happen fairly quickly. With rates increasing as fast as they have and the fundamentals where they are, we expect a lot of distress next year—but that will be good because it will help reset basis and the industry can deal with its challenges.
Laura Nguyen: Things are changing fairly quickly. Lenders are going to be taking on fewer riskier assets, but class A still seems to be doing okay. Larger lenders are on pause. Companies can put their money somewhere else and get a predicted return rather than putting it into something that might have a little more risk. That said, deals are still out there. I think it’s going to come down to relationships and how you can maintain them with the institutions that have backed you before.
Jeffrey Cole: The supply chain buildout doesn’t seem to be slowing in major markets, especially ports, and we don’t think that trend will change in the short run. Land sales have slowed because of pricing, not because of demand. Let’s assume we’re going into a recession. If we didn’t lease one square foot of everything that’s being developed right now, we would still have a lower vacancy rate than we did at the last peak, which is in 2007. That’s a sign of how much stronger we are facing a potential recession than before. The other factor driving industrial is strong consumer spending, which is spurring warehouse construction. We’re fairly bullish, as are our clients, but they’re in a kind of a pause mode regarding where pricing will end up because of the current interest-rate situation.
To watch the 30-minute on-demand recording of the event, click here. It includes a round robin at the end where each panelist provides an opinion on whether he or she is bearish or bullish about the short-term and long-term market outlook.