What spooks you this Halloween? Is it inflation? Interest rates?…
As business recovers from the upheaval of 2020, here’s my take on commercial real estate trends in the new year.
Flight-to-Quality in office buildings will likely accelerate with higher demands for flexible space options, shared meeting rooms, indoor air quality, connected building apps and touchless technology. On the other hand, it is anticipated that demand in downtown high-rise buildings will decrease as companies drive increased demand in more dispersed secondary markets. The office market has been in a state of flux as the work-from-home trend and the migration of people out of gateway cities combine to upend fundamentals.
In fact, office demand will be higher in secondary markets, particularly those with easy access for workers, and slightly lower or stagnant in primary or more urban markets. Commercial real estate investment will increase in those hotter secondary markets. It is likely that more companies will either relocate entirely or set up satellite outpost offices. A permanent work-from-home environment will likely be less compelling in secondary markets where commutes are shorter, development is less dense, and real estate costs are lower.
What about investing?
Commercial real estate investors are ready to make deals again. At this point it looks like we have made it through the worst of the economic downturn created by the health crisis. Now instead of focusing on downside risk, investors are focusing on upside potential. And investors are flush with capital. At the end of 2020, transaction volume was not down compared to 2019. Rather, they were above real estate closings at the close of 2006, which is generally considered the height of the pre-financial crisis.
The combination of increased capital, low interest rates and increased debt financing will reignite investment in 2021, allowing us to take a significant step toward normalization. The liquidity that fled the market is starting to return, causing year-over-year transactions to increase. “We expect markets to normalize and for there to be more certainty in 2021,” says Al Brooks, managing director and head of commercial real estate for JPMorgan Chase. Urban Land Institute’s Real Estate Economic Forecast predicts a varied recovery that will begin in 2021 and last through 2022. Leading real estate economists are signaling that resilience and underlying strength will likely win out over uncertainty and risk.
American Bankers Association’s Economic Advisory Committee expects the economy to decelerate in the first quarter with brighter days ahead. They predict the US economy will grow at about 4% in 2021, which will be the most robust growth in nearly two decades.
While economic growth accelerates, the labor market will recover more slowly. Committee members forecast close to 5 million additional jobs this year, but a return to full employment remains two or three years away. Some of those jobs will never come back since firms have learned to operate with a leaner staff. Many businesses will be cautious in rehiring until they see concrete signs of sustained demand and a reduction in slack.
The Committee sees price gains accelerating as the economy recovers, but they will barely meet the Federal Reserve’s inflation goal of somewhat above 2%. It also anticipates the Federal Reserve will not change the target range for the federal funds rate, which means little change for short-term interest rates this year. It projects rates on longer-term US Treasury securities and mortgage rates to rise modestly.
In conclusion, 2021 will require being able to react quickly to changing trends. What is certain is that there will be an overall re-thinking about space utilization. Office spaces will change, however, exactly how they look will vary from tenant to tenant. In the long term, we are going to need about the same amount of office space, although it may look different than it did pre-pandemic.
Shelly Branscom, CCIM is an NAI Maestas & Ward commercial real estate specialist who provides substantial long-term strategies and business planning services to her clients. She prides herself on thinking outside the box, enabling her to contribute unique solutions and outcomes specific to each of her clients.
I also recommend checking out 2021 CRE Forecast by Dr. Peter Linneman. The Linneman Letter is a highly regarded “one-stop-shop” quarterly publication for commercial real estate investors, as well as anybody seeking to understand today’s ever-changing economic and geo-political environment.