Fannie Mae: Modest’ Recession Coming In Q2 2023

Despite the economy getting off to a surprisingly robust start, the group still foresees a moderate recession and has revised their forecast for the expected commencement to Q2 2023.

Fannie Mae: Modest' Recession Coming In Q2 2023

Despite the economy getting off to a surprisingly robust start, the group still foresees a moderate recession and has revised their forecast for the expected commencement to Q2 2023.

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Good morning and welcome back to the week. Commercial real estate prices tanked this January, suffering their sharpest declines in over 10 years, since the Great Financial Crisis. Meanwhile, Credit Suisse’s (CS) Real Estate Fund’s NAV fell nearly 10% as the firm reduced payouts, fearful of a shaky interest rate environment.


Fannie Mae Sees Fed Pursuing “Higher for Longer” Interest Rate Policy

According to Fannie Mae (FNMA), the economy has been off to a surprisingly decent start in 2023 despite headwinds like declines in monetary aggregates and an inverted yield curve. But don’t get too comfy, as they still expect a modest recession in Q2.

Labor market (temporarily?) surprises to the upside: January's employment gains exceeded expectations with revisions showing a stronger labor market in 2022, but Fannie Mae partially discounts this strength due to oddities around warm weather and seasonal adjustments. The ADP measure of payroll employment showed less growth and ongoing disruptions from the pandemic may be affecting hiring patterns.

Quarterly figures and moving averages paint a more modest picture with meager growth rates and manufacturing output nearing recessionary levels. Conference Board's LEI also shows warning signs.

New CPI seasonal adjustments show prices are stickier than previously thought: The January Consumer Price Index (CPI) report shows a month-over-month acceleration of 0.5 percent, with core CPI rising 0.4 percent and inflation remaining above the target even when excluding shelter. The report also indicates that demand is sufficient to support price hikes, presenting an upside risk to the near-term growth forecast as well as interest rates.

The Federal Reserve is expected to hike rates by 25 basis points at its March and May meetings, with market expectations for an additional hike in July. Stronger labor market and inflation measures could lead to higher interest rates later in 2023, potentially causing a severe downturn.

All eyes on housing: After a slowdown in existing home sales in December, recent data on mortgage applications and pending sales suggest a rebound in housing to start the year due to lower mortgage rates. However, this bump is expected to be temporary, and affordability constraints and tight inventories will continue to limit sales.

Single-family housing starts saw an 11.3 percent jump in December but are expected to fall back significantly in the coming months, while single-family permits fell 6.4 percent, indicating a more indicative underlying trend. The pace of existing home sales is expected to remain soft for the year, totaling around 4.1 million units, similar to the level seen in 2008-2011.


Playing it safe: While Fannie Mae seems pleasantly surprised by the start of the year, the tone of their report is decidedly cautious. They believe recent data suggests monetary policy could be tightened further, resulting in even higher rates this year. It’s also unclear how COVID-related consumer behaviors and business practices will change with a possible slowdown still very much on the horizon.


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Healthcare Real Estate Deals Hit Record $26B in 2022

Despite a sluggish office market, healthcare real estate emerged as one of the top performers in 2022, along with the industrial sector amidst an unpredictable and turbulent market. Based on findings from a JLL survey, transactions in the healthcare sector reached a new all-time high of $26 billion in 2022.

The doctor is in: In 2022, medical office buildings drew significant investor interest, comprising 58% of the total healthcare investment activity, as per the JLL report. The merger between Healthcare Realty Trust and Healthcare Trust of America, involving around 400 MOBs, contributed to the high trading volume in this sub-sector, amounting to $9.4 billion.

However, the Q4 2022 transaction activity saw a considerable decline due to concerns about pricing uncertainty, triggered by increasing interest rates and recession fears. If not for the merger, the figures could have looked different.

An apple a day: MOBs have strong fundamentals due to rising demand and low new deliveries. They had an occupancy level of 92.3% at the end of 2022 with consistent rent growth. MOBs outperform the traditional office sector where occupancy levels are 11.4% lower. Unlike offices, MOBs are not facing remote-work challenges and tend to have longer tenant commitments. This stability is attributed to the high cost of building MOB space and their proximity to patients.


Staying healthy: Despite rising interest rates and capital markets being major concerns for investors in the healthcare real estate sector, medical office buildings (MOBs) are expected to remain the most attractive opportunity in 2023. MOBs have shown resilience, even in a challenging economic environment, due to strong net operating income growth and consistent rent escalations.

The survey also indicates that the healthcare real estate investment market is expected to grow in transaction activity and market valuations over the next 12 months. Therefore, there is no hindrance to a sunny forecast for the healthcare real estate investment sector.


Hybrid Working Set to Push US Office Vacancies to Record by 2030

According to a recent report by Cushman & Wakefield, hybrid working is expected to result in a record 1.1 billion square feet of US office vacancies by 2030, with 330 million square feet becoming redundant and 740 million square feet classified as "normal or natural" vacancies.

The findings: The report highlights that 25% of US office space is already undesirable, and 60% is at risk of obsolescence and might require "significant investment" to upgrade or repurpose it. The report notes that these trends are evident not only in North America but also in Europe and Asia.

Industry impact: The commercial property sector is undergoing lasting structural changes that are likely to intensify. Post-Covid recovery has not filled empty offices, and tenants are seeking less space per worker. The downward trend is still in flux, and the magnitude of the downward shift is not clear. Developers are also finding it challenging to finance ambitious plans, and some may have to relinquish office buildings to lenders as they are no longer competitive.


Why it matters: Hybrid working is causing lasting structural changes in the commercial property sector, which is likely to intensify. Developers may have to focus their resources on a handful of trophy properties that are still in high demand among tenants. As such, only 15% of US office space is predicted to fall into this new and highly selective category by 2030.

📰 Editors' Picks
  • Adapting to the Big Apple: After the expiration of NYC’s 421-a tax break, developers are reassessing their options, with condo developments emerging as a popular option going forward.

  • You used to be cool! Austin’s SoCo district has been a huge success over the past few years. But with big brands outboxing the locals, has Austin lost the personality that made it famous?

  • Taking their talents elsewhere: Right on the heels of Harmon and Spies leaving Cushman & Wakefield (CWK) for NMRK last week, Four JLL industrial sales jump ship for Newmark (NMRK).

  • Seeking the sun: Yelp’s (YELP) remote work policy has prompted employees to move to greener pastures. The number of Yelp employees living in TX and FL has since quadrupled.

  • Work and pleasure: To combat the empty-space crisis, mall owners are building attached apartment units in an attempt to capitalize on the live-work-play model favored by young adults.

  • Is the coast clear? Analysts expect that multifamily will face little distress as the year continues. However, the market could be impacted by fluctuations caused by lending caps on GSEs.

  • From highrises to homes: Office-to-apartment conversions have been proposed as a possible solution to NYC’s strangled housing supply. But some roadblocks are still in the way.

  • On the chopping block: McKinsey has just announced that it plans on cutting 2K jobs, mostly focused on support staff with no direct client contact.

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📰 Deals & Dealmakers
  • Industrial demand: Leading Charlotte-based developer Childress Klein and private equity real estate sponsor Altus Equity Group have teamed up for one of the largest historical spec build industrial projects within the Charleston MSA.

  • From Down Under: Australian fashion brand Cotton On has leased a 20 KSF retail space in Manhattan’s Soho district. Landlord Invesco (IVZ) asked for $275 per SF.

  • Hall of Famers: Cushman & Wakefield (CWK) lost some of its top talent upon the departure of Doug Harmon and Adam Spies. The five biggest deals of their tenure speak for themselves.

  • Welcome to the family: Brokerage firm KLNB acquired fellow broker Edge Commercial Real Estate, which operates in Maryland, Virginia, and Washington DC.

  • Spending money: Pearlstone Partners received a $75M loan from Knighthead Funding to move forward with a 182-unit condo project in the South Lamar neighborhood of Austin, TX.

  • Preparing the project: TCRE has been tapped as the exclusive leasing agent for PGA Tower, a 200 KSF Class A office building in West Palm Beach acquired by Gatsby Florida for over $17M.

  • Open skies: SkyPlus Developments move forward with the construction of a Mesa, AZ mixed-use facility that will offer up 270 KSF of office and retail space upon completion.

📰 Chart of the Day
REFC's January 2023 Monthly CMBS Loan Performance Report

CMBS Delinquency Falls Below 3% Again

  • CMBS delinquency rate decreased by 10 bps to 2.94% in January

  • Delinquency rate dropped from 3.04% in December, the second-lowest level since the start of the pandemic

  • Anticipated delinquency rate volatility due to the challenging macro environment, higher refinancing rates, and lower property-level cash flows and asset valuations

Special Servicing Rate Notches Down for Second Consecutive Month

  • Special servicing rate decreased by 6 bps to 5.11% in January, following a decline of 3 bps in December

  • Most loans with COVID-related forbearances have returned to original terms and are performing as expected

  • Loans entering special servicing are almost all related to the current market downturn (versus COVID-related reasons)

Source: CRE Finance Council report on CMBS loan performance for January.

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