This article was written by Walker & Dunlop. Please read our Editorial Guidelines for more information.
If you are investing in or considering investing in commercial real estate, what should you know about the commercial real estate market right now?
Well, the answer Very Depends on who you ask. What is abundantly clear is that two opinions are much better than one. All the officially available data – operating rates, macroeconomic factors and consumer confidence reports – suggest the market is booming.
It takes experienced and independent-minded experts to read between the lines and question some of the data and questions. Conclusion about it. That is Exactly What Dr. Peter Linneman did on a recent episode of Walker Webcast.
Full disclosure: His take on the future of commercial real estate may not make you feel terribly optimistic, but it will certainly open your eyes to some of the issues affecting the industry. His insights (backed by solid research) may even save you from making Some A costly investment mistake for years to come.
1. Real rent growth is lower than the Consumer Price Index (CPI)
If you’ve been following the recent consumer price index In the report, you’ll notice that one core CPI indicator appears to continue to drive inflation up: rental market. Only in April, Housing section of core CPI shown An increase of 0.4 percentage points, an annual increase of 5.5 percentage points.
for Investors in the rental marketthis look like good news because obviously The translation of these numbers is: rent is growing; therefore, the rental market is a safe bet Now.
Reality far less clear. there’s a few Serious defect What about the housing component of the CPI? calculated. one of them is fact Actual rents include both old and new leases, which can seriously skew the numbers. According to several study, include rent, whenever Lease signedresulting in data lag of 12 to 18 months.
Another problem with the CPI calculation method is that one-third of its data relies on OER numbers. OER (Owner Equivalent Rent) Estimate quantity The rent for a property can be generated based on its current value and relies on a survey of the current owner. That’s it, it is a number Based entirely on people’s perceptions of current home values, no Accurate valuation.
Not surprisingly, the vast majority of homeowners have a very inaccurate view of their homes. How much does their house cost? worth. according to Fitch RatingsBy the end of 2023, this was happening in 90% of metropolitan areas across the country.
Without these inflated indicators, real Rental growth rates have been much more modest. Zelman (Walker & Dunlop) tracks actual rental rates for single-family homes and finds they are increasing at just over 3% annually.
2. The office space industry is in trouble
Demand for rental space drops sharply during pandemic well documented. but The expected return of office workers to office spaces should rebalance the office space market. Peter Linneman is one of several prominent economists predicting such returns, butso far, The migration back to the office has yet to materialize.
according to a study Office attendance has plateaued at 30% below pre-pandemic levels, while the office space real estate industry continues to decline, according to McKinsey Global Institute. The institute estimates that demand for office space will fall by 13-38% between 2019 and 2030.
besides very obvious factor That is Also triggering the decline in the office space industry are questions about how the construction and banking industries handled the situation, which exacerbated the adverse conditions.
The construction industry is responding to the office space crisis Totally counterintuitive way. Rather than slowing down the pace of construction, Dr. Linneman noted: have $80 billion Pouring Invest in the construction of a new office building. the ideaobviously, Is that commercial? Developers hope to attract companies to use the most innovative and high-end office spaces. That is although the fact is All indicators indicate The problem isn’t outdated office space, but changing work patterns.
at last, Lender’s reluctance Repossession of an office building through foreclosure may create further problems. Banks prefer to restructure business loans rather than foreclose. this It’s understandable because they don’t want have Put more money into the increasingly loss-making real estate industrybut it If such an investment shows signs of failure, it will be more difficult for investors to abandon the investment.
3. Consumer confidence may be shaken
there are many That is been Over the past year, consumers have shown remarkable resilience in the face of continued economic uncertainty. The story goes like this: Unemployment is low, there are jobs, credit card spending is high, but that’s about it. actually Indicators of a strong economy. People may not be able to afford a house, but they are spending money on vacations, consumer goods and eating out, which seems to paint a picture of how the general feeling positive About their financial situation.
this positive review Do not tell this all storyHowever. In particular, the unemployment figure is Unreliable because it doesn’t take into account the current owners and- or underemployment. This is largely because the data provided by the U.S. Census Bureau relies on the Current Population Survey. as we can see in the case of For rents and home valuations, the survey did not provide precise figures.
A more accurate unemployment rate may be much higher than the actual unemployment rate 3.9% April chart given Bureau of Labor Statistics. Peter’s my own Calculations put the rate at nearly 6.6%, nearly double the official figure. If this number is closer to the truth The overall picture of consumer confidence is starting to look a lot Not too optimistic. Not to mention this fact That consumer confidence index As of April, there has been a continuous downward trend. Now, This is the lowest level since July 2022 and well below the peak level in 2019. The impact of the epidemic on people’s finances may be wider and more widespread Longer life More than official economic readings like to admit.
4. Multifamily development is about to slow down
this yes no News any real estate investor wants to hear Now. Multifamily housing has touted as a lucrative investment strategy, especially since the housing crisis is spurring demand for new multifamily housing.
However, there are farther Factors Affecting Multifamily Housing not just Supply and demand dynamics. The largest of them is fact Rising construction and insurance costs coupled with stagnant or slowing rental growth. Developers are realizing that investors are more and more Be wary of rising costs. insurance feeEspecially in the past year, there has been a large increase.
another factor That is What Peter is referring to as slowing down multifamily development is the “not in my backyard” mentality that many people have regarding multifamily development in their areas. This opposition leads to insistence Zoning laws This limits multifamily development and in some areas banned them common.
comprehensive, recent Research Shows multifamily development will start to slow start 2026. it By itself it doesn’t mean it’s a bad investment choice, It’s just that sometimes it’s not the housing holy grail it’s been described as.
5. Year-end outlook for federal funds rate remains uncertain
at last, What Every investor wants to know Now yes Whether the Federal Reserve will implement its much-anticipated interest rate cut this year. There are so many conflicting narratives about what the economy is real do, it’s understandable So far, The Fed has been hesitant to make any clear commitments.
Let’s hear the good news first. Inflation is falling if we considering The underlying fictitious housing inflation data based on the OER may be much lower than the Fed currently believes. Peter’s thought is that “the Fed will finally come to terms with this sometime this year.”
Now, the news may not be good. Since interest rates only really affect the housing and auto industry sectors of the economy in the short term, the Fed may not cut rates at all as long as the rest of the economy is doing well. They are likely to choose a cautious approach and keep interest rates at current levels.
This article was written by Walker & Dunlop
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Notes on BiggerPockets: These are the opinions written by the author and do not necessarily represent the views of BiggerPockets.
