Fall 2023 CRE Outlook
It is no secret that 2023 has been a slow and challenging year in commercial real estate. With unrelenting Fed rate hikes, bank failures, and a slowdown in leasing velocity, there are rising concerns about where CRE is headed for the remainder of the year. Whether you’re a seasoned investor, a business owner seeking new space, or simply curious about the market, the following article will dive into what to expect in CRE this fall.
Banks and Lending
According to a Federal Reserve survey released in late July, the lending conditions at U.S. banks have been tight and will most likely get tighter in the coming months. The Senior Loan Officer Opinion Survey showed that while credit conditions have become more strict this year, demand also declined. The results are no surprise to economists expecting a recession. Several economists believe that the recession will most likely result from further tightening of the banking system. This system has had to react to a sequence of 11 increases in interest rates over the last 12 months, alongside a brief turmoil in March, during which three medium-sized financial institutions failed.
“Regarding banks’ outlook for the second half of 2023, banks reported expecting to further tighten standards on all loan categories.” – The Fed in a recently released survey
CRE also experienced a notable share of banks saying they have put more restrictions on standards along with weaker demand. Since CRE is significantly dependent on funding from smaller banks, a reduction in lending from these institutions could exacerbate the effects on the sector. Lenders have become more cautious of their lending, which will ultimately make it more difficult for individuals and businesses to secure loans for purchasing or developing CRE properties.
CRE Trends By Asset Class
Most CRE asset classes are still witnessing reduced rental growth, elevated vacancy rates, and rising cap rates compared to 2022. This trend will most likely continue this fall and winter season.
Over the last nine months, the volume of transactions related to apartment deals has been diminishing, exhibiting a year-over-year reduction of over 60%, according to Real Capital Analytics. However, it’s important to interpret this decline cautiously, as it stems from a withdrawal from a phase of excessive market liquidity. During various periods in 2022, the volume of these deals reached unprecedented heights. Nonetheless, the reality remains that deal activities are currently subdued.
In the five years leading up to the onset of the COVID-19 pandemic, the average deal volume for each July was approximately $12.7 billion. This places the volume for 2023 at 52% lower than the established past norms.
Due to this diminished liquidity, the cap rates for apartments are trending upward, a trend that you can expect to continue in the fall. The simple average of the rates at which transactions occurred increased by 30 basis points compared to the same month in the previous year, reaching 5.0%.
Industrial cap rates are also increasing at present. The average rate at which transactions occurred rose by 40 basis points in July, compared to the previous year, reaching 5.7%. Cap rates for warehouse properties experienced a 30 basis point increase from the prior year, while those for flex properties saw an even higher rise of 50 basis points.
The office sector has been struggling for the past few quarters, and this trend has shown no signs of stopping as we head into the fall season. According to Real Capital Analytics, in July 2023, the volume of deals was remarkably low, making it the second least active July in history. Only July 2009 recorded fewer transactions, with a trade volume of $1.5 billion.
Despite a slower volume of deals, there has been a rise in businesses, including Google, Amazon, Apple, and Disney, calling their employees back to the workplace or shifting to a more hybrid schedule. For office investors, this may be your saving grace in Q4 2023.
The shopping center sales experienced a substantial 70% decrease compared to the same period in 2022, amounting to only $1.8 billion in transactions during July 2023. The current declines can be partially attributed to the unsustainable pace that was established the previous year. Nonetheless, this lack of liquidity has caused retail cap rates to rise and will continue to do so in the coming months.
Additional Trends to Look Out For
There has been a recent rise in people pulling up their roots and making the move to the suburbs.
According to Census data, the New York Times reports that between 2010 and 2020, there was a 10.5% increase in the proportion of Americans residing in suburbs, and the pandemic further expedited this shift.
The CRE sector has undergone notable changes this year, primarily attributed to the ongoing infusion of technology and inventive solutions. The term “Proptech,” denoting the fusion of technology into real estate, stands as a substantial leap forward. Its objective is simplifying procedures, elevating customer experiences, and boosting operational efficiency.
As retailers adopt AI technologies to optimize their daily operations and improve customer experiences, the demand for AI-enabled retail spaces is increasing.