Commercial real estate investors are preparing to put their money to work as high interest rates and remote work continue to hurt the real estate market.
Private equity firms have $400 billion in cash, 64% of which is in North American real estate, according to Preqin data cited by Bloomberg. This is the highest percentage of the North American real estate market allocated in the past two decades, bringing the total to about $256 billion. This suggests that companies are waiting for the right opportunity to buy up commercial real estate at bargain prices.
Commercial real estate values are on the decline in the U.S., with prices falling 7.5% in the fourth quarter, the steepest drop in 13 years.
Meanwhile, banks have been quietly reducing their exposure to commercial real estate debt: Deutsche Bank, Goldman Sachs and other lenders have sold loans on a range of office buildings this year, The New York Times reported in June.
Investors have been keeping a close eye on the commercial real estate industry since the pandemic saw workers fleeing offices in the wake of the work-from-home trend. Years later, remote work appears to be a lasting legacy of the COVID-19 era. According to Moody’s data, the U.S. office vacancy rate rose to 20.1% in the second quarter, the highest vacancy rate since the company began tracking the data 45 years ago.
“It’s notable that commercial real estate vacancy rates are flat or even rising during a booming economy,” Apollo chief economist Torsten Slok said in a recent note. “If the Fed is successful in slowing the economy, all of these indicators would rise, and likely rise very quickly.”
The threat of debt also looms over the industry: The commercial real estate sector has $1.1 trillion in debt coming due this year, according to Goldman Sachs, and will likely have to refinance at higher interest rates and lower property valuations.
The share of commercial real estate debt that was behind on payments rose to 1.18% in the first quarter, the highest level in nearly a decade, according to Fed data.
Meanwhile, underlying office rents have remained roughly flat for four consecutive quarters, suggesting property owners are failing to increase profits, Moody’s said.
Some real estate veterans are calling for a major shake-up in the industry, which could see a wave of bankruptcies and forced sales, particularly in the commercial property sector, said Kiran Raichura, deputy chief real estate economist at Capital Economics.
“We expect signs of distress to intensify this year as loan extensions expire,” Raichura wrote in a note earlier this year. “2024 could be the year the dam breaks,” he later added.
