Filip Blazeshki (BBVA Research) | The fast economic recovery over the next few years will benefit commercial real estate greatly, but the structural challenges to some of its segments will remain and possibly intensify
- Strong economic growth over the next several years will drive down vacancies and support rent growth
- Offices and retail will remain challenged over the long term and new construction will remain very low
- The apartments segment will benefit from housing shortages
- Industrial CRE will benefit from the structural transformation of the economy
The U.S. is slowly exiting the Covid induced recession and is on track to post the highest rate of growth in almost 40 years. The economic expansion will be driven by effective vaccination, the reopening of the economy, strong job creation, elevated savings, pent-up demand, massive fiscal support, and accommodative financial conditions. The commercial real estate (CRE) industry will benefit greatly from these conditions, which will help drive down vacancies and support rent growth.
That said, the structural challenges that the industry was facing before the pandemic, driven by changes that new technologies bring and reshape the way we live, work, and shop, have only intensified. CRE is a large segment of the economy and its adjustment will not come without a cost, but this will be a long-term process and some segments will fare better than others. Despite a reprieve provided by strong economic growth over the next several years, offices and retail CRE will continue to face challenges, possibly triggering an existential crisis and going through an adjustment process with very low new construction, and only in strategic locations, as well as repurposing. The apartments segment is likely to get close to pre-recessionary conditions soon, albeit with some readjustments due to changes in preferences of renters. Industrial CRE, on the other hand, will benefit greatly from the fast growth in the coming period and the structural transformation of the economy.
CRE – a large part of the economy’s assets
Non-financial businesses and nonprofits own close to $32tn of real estate assets (Figure 1), equivalent to close to 39% of all assets owned by these sectors of the economy. Some of this real estate might not necessarily be CRE in the traditional sense of the term1. Nareit specifically estimated the value of multifamily properties, offices, retail, healthcare, hospitality, industrial, flex, and self-storage CRE, at around $16tn in 2018, which is equivalent to $17.5tn in 2020 terms2. This still represents a significant part of the economy: over one-fifth of total assets of all non-financial businesses and non-profit organizations and 83% of GDP. That said, the share of real estate in the total business sector assets has been in a long term decline (Figure 2), and the Covid pandemic accelerated the structural forces that weighed on it, primarily through a wider acceptance of telecommuting, which is challenging the office market, and e-commerce, which is adversely affecting retail CRE. The long-term decline reflects lower real estate investment, as new business models gained importance over time, offering new channels for product and service delivery and attractive investment returns.