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Commercial real estate investors are preparing to put money to work as high interest rates and remote work continue to batter the property market.
Private equity firms have $400 billion of cash on the sidelines, with 64% of that earmarked for properties in North America, according to Preqin data cited by Bloomberg. That's the highest share dedicated to the North American property market in 20 years — amounting to around $256 billion — a sign that firms are waiting for the right moment to scoop up commercial properties at bargain prices.
Commercial real estate values have been on the decline in the US. Prices dropped 7.5% over the fourth quarter, the steepest drop recorded in 13 years.
Banks, meanwhile, are quietly shedding exposure to commercial real estate debt. Deutsche Bank, Goldman Sachs, and other lenders sold off loans on various office buildings this year, The New York Times reported in June.
Investors have been watching the commercial real estate industry since the pandemic when the work-from-home trend cleared offices of workers. Years later, remote work appears to be a lasting legacy of the COVID-19 era. US office vacancies climbed to 20.1% over the second quarter, Moody's data shows, the highest vacancy rate recorded since the firm began tracking the data 45 years ago.
"It is remarkable how vacancy rates for commercial real estate are moving sideways or higher in a strong economy," Apollo chief economist Torsten Slok said in a recent note. "If the Fed succeeds with slowing the economy down then all these lines will move higher, and potentially very quickly."
A specter of debt is also looming over the industry. The commercial real estate sector has $1.1 trillion in debt set to mature this year, per Goldman Sachs, which probably have to be refinanced at higher interest rates and with lower property valuations.
The percentage of commercial real estate debt in late payment status climbed to 1.18% in the first quarter, according to Fed data, the highest level in nearly a decade.
Effective office rents, meanwhile, have stayed relatively flat for four quarters in a row, Moody's said, a sign property owners aren't pulling in more profits.
Some real estate veterans are calling for a major correction in the industry. The commercial property sector, in particular, could see a wave of bankruptcies and properties with forced sales, according to Kiran Raichura, the deputy chief property economist at Capital Economics.
"We expect evidence of distress to ramp up this year as loan extensions end," Raichura said in a note at the start of the year. "2024 could be the year the dam bursts," he later added.
