If you are confused about how to predict business activity for the second half of 2020, you are not alone. Here we are almost five months into the COVID-19 pandemic and halfway through the third quarter of a truly unexpected year, and there is no shortage of unknowns around how this health crisis will impact commercial real estate markets. Two leading forecasts are predicting a short-lived, but drastic, market impact this year.
Earlier this month, the Mortgage Bankers Association upgraded its commercial real estate lending forecast, acknowledging the significant unknowns on the course of the virus, our economic and social responses to it, as well as government policies to address it. That said, the MBA expects that commercial and multifamily mortgage bankers will close $248 billion of loans backed by income-producing properties in 2020, a 59% decline from 2019’s record volume of $601 billion before making a sharp, partial rebound next year. Likewise, the Urban Land Institute’s latest forecast predicts that commercial property transaction volume will total $275 billion this year, less than half the $588 billion recorded in 2019. Notably, however, ULI predicts some light at the end of the tunnel, with a short-lived recession and a much healthier capital market than we had during the 2008 financial crisis. If the economists ULI surveyed are correct, transactions will rebound to $400 billion by 2021 with much less severe impacts on real estate market conditions and values (with the notable exceptions of retail and hotels).
To shed light on the market at this uncertain time, I caught up with four leading commercial real estate analysts. Here’s what they had to say about their concerns, the timing of distress, green shoots, and expectations for the final two quarters of 2020.
What concerns you the most about the outlook? What are you watching most closely? What are your expectations on the timing of distress?
Jim Costello, Senior Vice President, Real Capital Analytics
“The commercial property market is hung as buyers and sellers move apart on their price expectations. The concern here is a worry about what happens next in the economy, but fundamentally, the issue is uncertainty regarding the outcome of the COVID-19 crisis and what the implications will be by property sector and metro when this thing is all over. Investors hate uncertainty. With the big unknown centering on when we will be able to return to some sense of normalcy in our daily lives, potential buyers are hesitant to step up to pay top dollar for assets. Weirdly, the uncertainty in the economy and outcomes for public health can also move owners to ask for higher prices. Better the devil you know after all, and if you are going to ask me to part with a property where I know the challenges, you will need to pay dearly. As a result of this impasse, U.S. deal activity was down 68% from a year earlier in Q2’20.
“The only green shoots I’m seeing are that some owners are starting to accept the fact that if they want to sell an asset, then they will have to reprice downward. There is not enough of this activity to provide a boost to deal activity yet, and prices have only just started their coming downward fall, but there is a growing acceptance on the part of owners that they do face a repricing. The growth in distress has helped these owners to come to grips with the reality of the situation they face. In the retail & hotel sectors, in particular (some CBD office as well) challenges to property income have translated through to missed mortgage payments and a growing inventory of troubled commercial property loans.
“Banks were the majority lenders over the last decade and they will be stuffed with lots of bad loans, yet with a light touch from their federal regulators and cheap capital from the Federal Reserve, these lenders will extend and pretend for some time and delay the realization of losses until a clearer picture on the economy comes into view. We have further to fall.”
What barometers are you watching most closely for signs of what the second half of 2020 might look like?
Barbara Denham, Senior Economist, Moody’s Analytics REIS
“Every day that brings higher COVID cases yields continued uncertainty as to the longevity of this pandemic. There is no way to turn the economy around until the virus is contained, and it’s critical that more government leaders recognize this.
“We are closely watching the commercial real estate statistics, and while they have not shown a significant impact yet, they will. In the interim, we are looking at metro-level employment numbers by sector to see how and where the downturn is hitting the labor market. The current numbers show the deepest stress in the New York metropolitan area and Northeast U.S. This should change as other states will be forced to close more of their economy with higher cases reported.
“There are some positive anecdotes in the news, but these counter the negative anecdotes of which there are many. I do feel that many of the doom-and-gloom outlooks are overstated, just as they were following 9/11.”
Where do you see green shoots during these summer months? By metro? Asset class?
Thomas Fink, Senior Vice President, Managing Director, Trepp
“First, I think there is plenty of capital to finance the recovery once it starts, assuming buyers and sellers can agree on price. That will obviously keep the service providers busy! In the property markets, industrial is the strongest green shoot for two reasons: (1) the continuing shift to e-commerce, and (2) companies rethinking the risks of long supply chains. Suburban multifamily and office may experience a stronger recovery as people avoid high-rise buildings. That also means that the large urban areas may take more time to recover, particularly in those markets which are heavily dependent on public transportation.”
What concerns you the most about the near-term outlook?
Ryan Severino, Chief Economist, JLL
“My primary concern is the abject lack of control of the outbreak. The economy is not independent of the pandemic, a fact that seems greatly overlooked or poorly understood. Until people feel safe, they will not fully reengage the economy and that will weigh on commercial real estate performance. Industrial clearly presents a bright spot, holding up relatively well despite the larger macroeconomic issues.”
Note to readers
LightBox is grateful to Jim Costello, Barbara Denham, Tom Fink and Ryan Severino for their valuable contributions to this blog. To stay up to date on timely research into how the pandemic is impacting commercial real estate being conducted by JLL, Trepp, Real Capital Analytics and Moody’s Analytics/REIS, visit these sites:
Category Commercial Real Estate