July 17, 2024

Are we facing an “apocalypse” in commercial real estate? Some analysts think so.
With more people working remotely, commercial real estate is facing an increasingly dire situation and some real estate professionals say the market is being sharply divided “into haves and have-nots.”
In San Francisco, an “epic commercial real estate crash” is looming, according to the San Francisco Standard, which warned of an approaching train with “the city, its budget, and its ability to provide services tied to the tracks. In New York, “remote work is killing Manhattan’s commercial real estate market” Bloomberg tweeted, and similar problems extend to other cities.
A recent study by NYU professor Arpit Gupta and his colleagues predicted an “office real estate apocalypse” as research points to a 39% decline in office values, in the long run, representing a “$453 billion value destruction”.
Using New York City data, the research estimated “a 45% decline in office values in 2020 and 39% in the longer run, the latter representing a $453 billion value deduction,” which could plunge the city into a “fiscal doom loop.” Similar damage could hit other cities and by extension the national economy.
How do we make sense of the available data? CommercialEdge’s monthly National Office Report for September found that average office listing rates stagnated at $38.70 per square foot, down only 0.1% year-over-year. Bad, but not apocalyptic. Some cities have strong rental markets, especially in the Sun Belt or regions with strong life sciences industries.
What Other Data Shows
Moody’s Analytics -which provides economic research as a subsidiary of Moody’s Cooperation– documented that Securities backed by commercial mortgages saw “a huge spike in elevated delinquency rates” in the second quarter of 2020, according to Moody’s Analytics. But banks, life insurance investors, and others, have restructured loans and offered forbearance, lessening their delinquency rates. That strategy will be harder to follow if there’s new pressure on the office-space market, especially with the Fed raising interest rates, making borrowing more costly.
So far, commercial banks seem to have their real estate loans under control. Their charge-off and delinquency rates hit 0.07% in the second quarter of 2020. But for the first two quarters of 2022, the Fed reports those rates at zero, which is not a signal of dramatic declines in loan quality.
And even 2020’s bad numbers were nothing like the 2008 financial crisis. Between 2009 and 2010, commercial bank loan delinquencies were over 2% for seven consecutive quarters. Tighter regulation has since helped control loose bank lending, so there are no signs that commercial lending failures have pulled down the entire economy.
The aggregate numbers show some positive signs in commercial real estate. In the past year, Sun Belt cities like Charlotte and Austin, or cities with concentrations of life sciences like Boston, saw double-digit increases in rents GoogleGOOG and other tech firms had leased large amounts of space in cities like New York and Chicago.
The biggest risk in commercial real estate is older and less desirable office space. Any city’s amount is central to assessing its overall risk. A magazine roundtable from PERE, which tracks private equity real estate investing, found a “very challenged” but an uncertain market, with risks ranging from inflation in construction and financing costs to a looming recession.
PERE’s experts see a “bifurcated” market, with more modern buildings (especially ESG compliant) and some cities in good position to weather the crisis. The PERE investors see a “new normal” with less full-time office occupancy, but with offices still facing “unknown” overall demand from clients.
But it’s possible these real estate investors are adding a positive spin to the numbers. In contrast, consider the “apocalypse” analysis from NYU and Columbia professors. The research combined working from home data with financial information from real estate investment trusts (REITs), plus other financial information, and predicted, “long-run office valuations that are 39.18% below pre-pandemic levels” with “lower quality office stock…a more substantially stranded asset.”
Based on this study, cities—and the economy—are in for a rough ride. Although some older buildings might be converted into housing, that’s not an easy or immediate process. Collapsing real estate values could lead to substantial fiscal problems for many cities, resulting in cuts to social services, education, public health, and other essential government functions. We are not in a commercial real estate apocalypse yet, but we all need to keep one eye on the danger.

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