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A New Chapter for the Office Market

At the start of the year, trends showed a surge in office returns. That movement has since stalled, with most offices remaining half-empty as companies settle into hybrid work plans (no shock there). Meanwhile, other CRE sectors are still finding favor thanks to their strong fundamentals.

A New Chapter for the Office Market

At the start of the year, trends showed a surge in office returns. That movement has since stalled, with most offices remaining half-empty as companies settle into hybrid work plans (no shock there). Meanwhile, other CRE sectors are still finding favor thanks to their strong fundamentals.

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Market Snapshot

S&P 500
GSPC
4,109.90
Pct Chg:
-0.6%
FTSE NAREIT
FNER
703.78
Pct Chg:
-0.2%
10Y Treasury
TNX
3.541%
Pct Chg:
0.9%
SOFR
1-month
5.06%
Pct Chg:
0.2%

*Data as of 5/16/2023 market close.

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SHIFTING TIDES

RTO Stalls Marking a New Era for the Office Market

Despite initial signs of employees returning to offices in higher numbers, the nationwide back-to-the-office push has stalled as companies settle into hybrid work models.

Hybrid happenings: The start of 2023 saw over 50% office occupancy rates for the first time since before the pandemic. But recently, the return-to-office rate has stagnated. According to Scoop Technologies, 58% of companies allow employees to work part-time from home, with companies requiring full-time office presence declining to 42%. These trends are mostly driven by employee preferences—saving on office costs seems to be a smaller factor.

No place like home: The shift to hybrid work has led to declining real estate values and lower property tax revenues in big cities in particular. In NYC, for example, each employee working from home instead of from the office costs city businesses about $4,600 in annual sales. Naturally, city officials are trying new strategies to attract workers, including tax incentives for office landlords to modernize buildings—but workers still prefer the comfort of their own homes.

Regional / industry differences: Return-to-office rates are higher in some regions like Texas and in specific industries, like law, where in-person presence is required for compliance reasons. Tech companies continue to have the most flexible WFH policies, resulting in low return-to-office rates in tech hubs like San Francisco, Seattle, and San Jose. And although they initially led the charge in the back-to-office movement, more financial services firms are actually adopting hybrid workplace policies to keep employees happy.

Office in distress: The pandemic and the shift towards remote and hybrid work models have significantly impacted the office market. With reduced demand for office space and rising vacancies, some property values have nosedived. Many office owners are selling distressed assets at significant discounts, indicating weak demand may persist. The current wave of discounted office listings is expected to exert further downward pressure on the office market for some time.

➥ THE TAKEAWAY

Remain flexible: While beneficial for employee flexibility, the shift towards hybrid work models is reshaping urban economies and real estate as we know it. But despite challenges for cities and property owners, these trends also present new opportunities for innovative strategies and investments. Around the country, discounted office spaces are being snapped up by opportunistic investors repurposing them to attract tenants at lower rents.

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🌐 Around the Web

📖 Read about the different strategies you can employ if working from home makes you feel lonely and isolated in this article from Harvard Business Review.

🖥️ Watch as The Real Deal sits down with Rory Golod, the President of Growth at Compass (COMP), as they discuss the firm’s $1B loss, recent layoffs and office closures, and how they plan to innovate.

🎧Listen to this episode of BiggerPockets as they dig into the top two housing marketing in 2023 that are still seeing explosive growth despite rising rates.

WEATHERING THE STORM

Resilient Subsectors Remain Desirable Amid Commercial Real Estate Turbulence

Amidst mounting worries over real estate's well-being, investors hold a positive outlook for select sectors in the commercial property market. However, heightened attention from regulators following the recent banking crisis has spooked some investors.

Refinancing struggles: The Fed's Financial Stability Report came out last week and noted that 20% of assets held by the smallest banks are nonfarm, nonresidential CRE loans. The biggest concern lies with the office sector, where owners may have trouble refinancing due to low occupancy and rising rates.

Optimistic outlook: Contrary to these concerns, some investors argue that the CRE market is not as dire as it appears. Certain subsectors, such as industrials and multifamily housing, still exhibit strong fundamentals and present attractive investment opportunities. Sara Cassidy, Managing Director at AEW Capital Management, points out that specific sectors remain stable and even stronger than expected.

Invincible industrial: In the industrials sector, which includes manufacturing, distribution, and storage facilities, the rent increase has not yet been fully reflected in long-term leases. Cassidy suggests that upcoming lease renewals will likely drive up the valuations of such assets.

Housing haven: Multifamily housing, particularly in thriving regions like the Sun Belt, has also attracted investment interest due to population and employment growth. Recent rate hikes have made these assets more attractively priced, creating positive buying opportunities.

➥ THE TAKEAWAY

Transition period: Despite the uncertainties surrounding certain sectors, commercial real estate is not doomed. It is undergoing a transition and repricing, presenting opportunities for savvy investors. To identify these opportunities, it's crucial to analyze property and geographic specifics rather than getting swayed by market noise.

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📰 Daily Picks
  • Immigration impact: Florida's construction industry faces the consequences of a newly enacted immigration law that could disrupt its workforce.

  • Employees only: American Airlines (AA) built an exclusive hotel near its DFW hub for pilots, flight attendants, and other airline workers.

  • Too much inventory: An oversupply of summer rentals in the Hamptons is spurring price cuts of 20% or more as affluent Wall Street and tech workers cut back on summer spending.

  • Battery power: Anovion Technologies plans to build a 1.5 MSF manufacturing facility in Bainbridge, GA, for just $800M, marking one of the biggest industrial developments in North America.

  • Credit crunch: A survey by the NY Fed found that Americans are beginning to feel the squeeze as millions begin to find it more difficult to access credit.

  • Ghost town: The future of Chicago's storied finance hub is at risk as empty towers threaten the city's real estate landscape and economic vitality.

  • Lending slowdown: According to CBRE, real estate lending declined by 33% in Q1 due to higher borrowing costs and tighter credit standards.

  • Deal of the day: Investment firm TPG Global plans to buy Angelo Gordon, a credit and real estate investor that works with distressed debt, for $2.7B.

  • Redevelopment deal: A $22M office teardown project clears the path for the construction of a multifamily development in Orange County, CA.

  • Wastin’ away: The Margaritaville Times Square Hotel is on the brink of a foreclosure auction, posing a significant risk to its tropical-themed oasis in the heart of NYC.

  • Props to proptech: Proptech emerges as a transformative force, reshaping the brick-and-mortar retail industry after the pandemic—and now it’s got AI in its sights.

  • To the rescue: Recent private equity deals offer a glimmer of hope for CRE, but the question remains as to whether they can effectively rescue the industry in the short term.

  • Shopping spree: Pacific Retail Capital Partners acquired Bridgewater Commons, a 1.2 MSF mall in Bridgewater Township, NJ, and The Village at Bridgewater Commons.

  • Debt spiral: Although mortgage originations are at their lowest level since 2014, total consumer debt hit a new high in 1Q23, surpassing $17B.

📈 Chart of the Day

Multifamily has experienced a radical downshift over the past 36 months. While 2020–22 saw record rent growth and historically low interest rates, the tides are now turning.

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