In fall 2020, Allen Matkins and the ULI Center for Capital Markets and Real Estate held a roundtable discussion, in two parts, featuring several industry leaders. The speakers shared insights regarding the effect that COVID-19 has had on capital markets, mainly in real estate, as well as their forecasts for the coming year. Other topics discussed included which sectors of the market are strong, and which should you avoid; and what the thoughts and strategies of some of the major players in real estate financing and investing are.
The following are takeaways from the discussion:
1. Non–Real Estate Capital Markets Have Performed Well
Despite the overall negative economic impact that COVID-19 has had, panelists agreed that equity and credit markets have shown surprising strength and resilience, panelists said. Although April 2020 unemployment rates were hovering around 15 percent as equity and credit markets plummeted, policymakers threw trillions of dollars at the problem in the form of aid programs, loans, additional unemployment insurance, and lower interest rates. The markets generally recovered at a record pace. High-yield bond issuances in August (typically a slow period) were $44 billion—on pace to be the biggest year in at least 10 years. Many companies have been able to refinance their balance sheet to extend maturities in order to create liquidity. Although the current default rate exceeds 6 percent, it is nowhere near the double-digit default rates predicted a few months ago.
2. Real Estate Markets Aren’t Thriving, but They’re Staying Afloat
Although commercial mortgage–backed securities (CMBS) volumes are down about 50 percent for the year, debt in the multifamily space has remained more or less flat and with very attractive rates. In addition, government stimulus and aid helped people continue to pay their rents and mortgages. Overall volumes are down, and lenders are mainly trying to figure out how to support their existing clients. The numbers show that real estate markets did not directly benefit as much from government stimulus as corporate markets. But there was a trickle-down effect that made them indirect beneficiaries of these programs. There will likely not be any additions for real estate in any future government stimulus.
3. The Retail and Hotel Markets Will Take a Long Time to Recover
John Brady, head of global real estate and vice chairman at Oaktree Capital Management, estimates that this may take “four to six years.” “Nobody wants to finance retail and hotels right now,” he said. Pre-COVID-19, hotel loans were at about 3 percent; now, they are hovering around 7 to 8 percent. Retail and hotels have generally represented a third or more of most issuances on the securitization side; now, it is less than 10 percent. When asked whether that will turn around any time soon, Brady stated, “I don’t see the catalyst for that.” Lower-end hotels and drive-to hotels are doing okay. But until businesses start thriving again, lenders will be very hesitant when it comes to hotels that mainly depend on business travelers, meetings, and conventions. The retail space is more difficult to predict because it has many more variables and moving parts, but until people are back to work and confident in the economy, the recovery will be difficult.
4. No One Quite Knows What the Future Holds for Office Space
In the United States, office space is less than 20 percent occupied right now. And while some companies are eager to get back to a fully staffed office, space requirements will no doubt be different because of COVID-19; appropriate distancing between workers—whatever form that may take—will certainly be a major consideration for years to come. Scott Stafford, a founding partner of Strada Investment Group, believes that people will be “avoiding density” for at least the next 12 to 18 months, so returning to an urban working environment could be slow in coming. Thus, urban markets will take a hit, at least in the short term. The net result is that lenders and investors are a bit hesitant to get involved in office space at the moment. Both Stafford and Terrence Daly, vice chairman at Cushman & Wakefield, believe that office space will not start to see a significant recovery until 2022. And right now, given the uncertainty of the next year or two, companies themselves are very hesitant to sign leases for a new term.
5. The Future of Remote Work Is Yet to Be Seen
Since the pandemic began this past spring, many workers have been working at home—some by choice, and some not. What is the future of the home office and its consequent effect on needed office space? Some of that depends on the market. High-density areas, where people are shoulder-to-shoulder on public transportation on their way to work, are likely to see a slower return to a traditional office environment. Other markets, where there is more space and most people can drive their own car to work, may see a faster return. However, John Frank, vice chairman of Oaktree, believes that many businesses will adopt a hybrid model, with workers splitting their working hours between the office and home. And since many people have gotten used to working from home—and they like it—they may be more likely to look for future work with a company that allows them to do so. In addition, hiring remote workers enables companies to access a much larger field of skill and talent than might be available in the immediate geographical area.
6. COVID-19 Accelerates Job Migration Trends
Not every region or property is going to behave the same way, panelists agreed. COVID-19 has accelerated the trend of population and job migration to places where homes are more affordable, taxes are lower, and less dependent on public transit. Many millennials are moving to the suburbs, and a growing number of businesses prefer a suburban location that provides space for light manufacturing as well as research and development. So, when it comes to investing, location plays a role, but so does the industry itself. The panelists generally agreed that the short-term future of real estate looks good in the industrial, multifamily, and single-tenant long-term credit leases.
While the pandemic didn’t deal as harsh a blow to the real estate space as it did to other sectors and industries, investors should proceed with caution. No one quite knows what the fallout from COVID-19 or the economic landscape will be in a year or two. It’s good to remember that real estate looked pretty grim in the wake of the 2008 crisis but came back nicely. Nevertheless, a patient and conservative approach is—at the moment—the best course to take.
The partnership between ULI and Allen Matkins was created with the goal of providing key decision-makers valuable foresight into capital-market trends. Allen Matkins has been on the forefront of commercial real estate awareness and is looked upon by industry leaders for guidance and content that will impact future business endeavors.