While some of the world’s biggest bond investors see the Federal Reserve’s inflation goal of 2 percent as a pipe dream, leading them to stock up on inflation-protected bonds and keep lots of cash on hand, it’s possible for the commercial real estate industry to remain steady, GlobeSt.com reports.
There have been periods where inflation has exceeded 2 percent in the past and CRE didn’t falter. Despite this, concern still exists, perhaps because people are looking at the recent past, Thirty Capital Financial CEO Kevin Swill told GlobeSt.com.
“To have a market, with low interest rates for more than 12 years, does not follow logic nor the cycle that existed for decades,” Swill said.
Even if a return to normalcy is inevitable, it likely will come with some loss based on some investors’ strategies when interest rates were low. Levered investors might have trouble covering debt service and securing loans if cap rates spread to interest rates narrow, according to DWS Group’s U.S. Real Estate Strategic Outlook for July.
“Real estate leasing could also retrench amid job losses and dwindling profits,” DWS Group’s outlook said. “Indeed, recessions have been the proximate cause of every broad-based decline in real estate prices since the early 1960s.”
There’s also potential for continued higher interest rates during higher inflation while the Fed attempts to slow growth. Increased interest rates could impact the financing process and its current cost.
“The real estate industry runs on credit and the fundamentals of real estate are out of balance,” Peter Tuffo, president of the south region for Suffolk Construction, told GlobeSt.com. “Real estate investment is tied to confidence, and some projects are simply not penciling out. Real estate responds negatively to higher risk.”
Meanwhile, Rogelio Carrasquillo, managing shareholder and cofounder at Carrasquillo Law Group, noted that developers also could feel the situation’s impact as bridge and short-term loans become more costly.
“As a result, programs such as EB-5 and other alternative sources of financing that would not be considered otherwise, become viable alternatives for the financing and development of commercial real estate projects,” Carrasquillo said.
Surprisingly, there could still be some good news out of all of this, Zachary Streit, founder and managing partner at WAY Capital, told GlobeSt. Inflation could lead to higher rent growth and net operating income (NOI) that could offset the increased interest rates. Streit also noted the trend of more deals being signed with fixed rate financings as well as a variety of partial recourse or creative financing structures like PACE “to offset today’s higher rates offered by floating rate lenders.”