The Fog is Clearing & We’re Getting Clarity

The uncertainty in the banking system created by the collapse of Silicon Valley Bank, Washington Mutual, and Signature Bank has caused a lot of concern in how businesses act today and their plan for the future.  This concern is causing some tenants to ask landlords, “Who’s the lender?”, when they are shopping the office rental market. The reason? If the landlord is banking with a lender that is in trouble, that can cast doubt on their ability to refinance the loan or fund tenant build out dollars.¹

I wouldn’t say tenants are in the driver’s seat at this point considering the strength of the Central Texas commercial real estate market, but it does mean tenants can push back on lease terms, especially if your business is financially sound and well established. Know that a solid lease materially boosts a buildings value, especially in a worsening market. In these uncertain times, landlords are looking for anything to stabilize their real estate values.

This leads me to updating you on the overall commercial real estate leasing market, by type.

OFFICE LEASING: Average US office building values have fallen 4% below pre-pandemic levels. Lower values (due to vacancies) only compound the struggle to secure new financing that has grown tighter due to higher interest rates and recent bank failures. 

Some estimate around 30% of US office workspace is at a higher risk of being obsolete as factors such as hybrid work, increased economic uncertainty, and widespread layoffs continue to lower demand for office space.

Office leasing volume (an indicator of the health of the leasing market, and the growth trajectory of businesses) is being reported as being 20% lower than this time last year. This means expect more office vacancy, which will lower rental rates; not so good for landlords or investment groups, but very good for the businesses that still need to lease office space. 

Potentially, the US could end a decade record of 1.1B square feet of vacant space compared to 688 M square feet in 2019 according to Costar, with 330M becoming obsolete. If office space becomes obsolete, it will be tragic for current owners while creating opportunity for investors looking at buying underperforming properties at a discount and then redeveloping them into another use, like multi-family, hospitality, etc.

MULTI-FAMILY: A rapid cheapening of multi-family commercial mortgage-backed security (CMBS) bonds versus corporate bonds may be bringing buyers back to this segment. CMBS’ are loans secured by pension companies, life insurers, etc. In addition, many multi-family projects have realized good rent growth over the past few years bolstering investors’ appetite for this project type.²

RETAIL: The increase in home delivery and online commerce has been reducing retail demand especially since COVID hit. Landlords, developers, and investors are focusing on redesigning and redeveloping existing retail space to attract more shoppers. For some retail properties, where a redesign may not be effective, expect to see partial or full conversions to other uses such as residential, flex, special use, or even office.

INDUSTRIAL: The COVID pandemic snarled the supply chain worldwide, prompting manufacturers to consider sourcing strategies. The pandemic exposed the fragility of the supply chain creating a boom for industrial real estate. The idea of regionalizing supply chains has picked up in the last two years as companies look for ways to manage risk; they are doing this by finding sources closer to their manufacturing.³ Proactive suppliers are doing the same thing by finding closer manufacturers. Take Tesla for example: where they locate a facility, suppliers set up shop close by. This activity, coupled with the new Q2 soccer stadium, has increased the demand for space, therefore reducing inventory. This inventory reduction is still occurring since the values of properties around the soccer stadium have increased dramatically, luring multi-family developers into the area.

To summarize, the term “commercial real estate” can mean several different things depending on their property type. Each type of property has its advantages and disadvantages. If you are considering investing in commercial real estate or are an owner-occupant and want to buy or lease property, give me a call and we can talk thru your options.

I can be reached at 512-736-5933.

 Source Citations

^{1 Jack Withhuas, Katie Burke. “Show Me The Financials: Office Tenants Now Grilling Landlords before Inking Deals.” CoStar News: CoStar Group, 5 April 2023.}

^{2 Mark Eschmeyer. “Alarms Ringing for Office Market, Bank Collapse Triggers Office Downgrade, Bank of America Bullish on Multifamily.” CoStar News: CoStar Group, 6 April 2023.}

^{3 Tudor Scolca. “Trends That Will Shape Industrial Real Estate in 2023.” The 2023 Report: Commercial Property Executive, 16 December 2022.}