Retail and office properties were once at the top of the list for real estate investors, until 2020 came along. Meanwhile, who would have thought that less glamorous investments such as industrial space and self-storage properties would be among the real estate investment options offering the most robust returns?
Even when times are relatively normal, trends can be notoriously difficult to predict. But because we have never been one to turn down a challenge, we are going to try anyway. Keep reading to learn more about the trends in 2021 that every real estate investor should know.
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Real Estate Trends Investors and Experts Say to Look Out For
CRE Will Be All About Medical
If past performance is an indication what lies ahead, commercial real estate will be all about medical going forward. While the commercial real estate sector as a whole posted a 32% decline in sales volume, medical office building (MOB) transactions declined by just 12.2% in the midst of the pandemic. Even though sales transactions decreased, cap rates compressed to 6.5%, due to strong investor demand.
According to a recent article by GlobeSt.com, cap rate stability is a sign that CRE investors view the MOB sector as a generally safe and durable asset class in an economic downturn. Despite about 30 million square feet of new medical office space coming to market this year, demand is still expected to outpace supply due to growth opportunities and pricing resiliency.
The most recent 2021 U.S. Medical Office Trends report from CBRE Research agrees the medical office building sector will offer new opportunities for property owners and commercial real estate investors:
- Stable growth of U.S. health care employment is expected over the next 5 years.
- Medical sector's proven resilience and outperformance will attract growing investor demand.
- Significant increase in demand for health care services due to a backlog of medical procedures.
- Telehealth will grow but cannot replace in-person doctor visits.
- Increased reorganization of health care systems will real estate a major focus.
- Diversification of hospital campuses as more medical services are performed off-campus.
- Long-term demographic and population trends will create more demand for MOBs in suburban areas.
- Shift to lower-cost markets and Sun Belt cities in Texas and Florida will accelerate.
- Remote work trends may affect administrative office use.
Mortgage Rates Will Be Low
As the economy continues to open up, some economists believe that rising interest rates are a risk as GDP and inflation continue to grow. However, according to a recent economic and housing outlook report from Fannie Mae, rising interest rates are not a major concern.
Fannie's view is that if interest rates continue to drift higher, the Federal Reserve will continue its accommodative policy at least through 2024.
In addition, interest rates in the U.S. are affected by what other central banks around the world do. The Reserve Bank of Australia and the Bank of Japan have an explicit policy of yield curve control, while the European Central Bank has implicitly implemented the policy by increasing purchases of longer-dated bonds when interest rates began to rise.
As Fannie Mae notes, foreign sovereign bonds with lower yields act as a limiting factor on U.S. Treasury yields. The Organization for Economic Co-operation and Development (OECD) agrees with Fannie's prediction that rates will remain low. According to OECD data, long-term interest rates (as measured by the projected values of 10-year government bonds) in the U.S. forecast to remain at 2% at least through the end of last year.
Big Cities Will Continue to Struggle
Big cities will continue to struggle this year in more ways than one. When businesses and residents leave, human and financial capital in the form of talent and dollars go with them. As The Hill reports, the trend of people moving to smaller cities and the suburbs could "spark a renaissance in parts of the country that had previously been on the decline."
The 2021 Emerging Trends in Real Estate from the Urban Land Institute (ULI) predicts that lower-density suburbs, smaller metropolitan cities, and rural areas will continue to benefit from inbound migration over the coming years. While many real estate practitioners are focused on a local community or region, developers, institutional investors, and financers look at real estate investment opportunities from coast-to-coast.
According to ULI, the top 15 U.S. markets with the best overall real estate prospects are:
- Dallas/Fort Worth
- Tampa/St. Petersburg
- Salt Lake City
- Washington, DC - Northern VA
- Long Island
- San Antonio
- Northern New Jersey
Housing Starts and Pricing Will Stay Strong
New residential construction in the U.S. has increased by nearly 50% over the past five years, with nearly 1.6 million new housing starts recorded by the U.S. Census Bureau (April 2021).
But even with the housing market growing at a rapid pace, there's still not enough supply to meet demand. As Realtor.com reports, the median listing price of a home was up 15.2% compared to last year, while the national inventory of active listings declined by 50.9% year-over-year (May 2021).
One reason why the demand for houses and prices will stay strong is that institutional buyers are flooding the single-family market.
Over the past six months, REITs such as Invitation Homes, American Homes, and Homes 4 Rent have invested about $77 billion on homes to rent. In fact, entire new home developments are being purchased by institutional investors such as pension funds to turn into single-family rental communities, according to The Wall Street Journal.
To be fair, it's not just private equity firms desperate for yield that are driving house prices up. Record low interest rates for the ordinary home buyer make financing a home cheaper than every, helping to make housing permanently more expensive.
Perhaps unsurprisingly, many of the markets ranked by ULI with the best real estate prospects are also the ones with the best homebuilding prospects, including Austin, Jacksonville, Tampa/St. Petersburg, Boise, Cape Coral/Fort Myers/Naples, and Greenville, South Carolina.
Opportunity Zone Investing Isn't a Sure Thing
Opportunity Zones (OZs) are an economic development tool that allows people to invest in distressed areas in the United States and U.S. territories. OZs were created as part of the Tax Cuts and Jobs Act (TCJA) of 2017, and there are thousands of Opportunity Zones across the country.
The Opportunity Zone program was welcomed with open arms by commercial real estate investors when it was launched several years ago. In addition to helping low-income and undercapitalized communities, investors also receive a series of tax benefits.
As the Tax Policy Center reported, an investor could put the capital gain into an OZ and receive a temporary deferral of taxes on a previously earned capital gain, basis step-up of previously earned capital gains invested, and permanent exclusion of taxable income on new gains.
However, today commercial real estate investors are not nearly as excited about Opportunity Zone investments. According to a recent report from GlobeSt.com, over two-thirds of CRE investors say they are not very or not at all likely to invest in an Opportunity Zone fund in the next 12 - 24 months.
It is not that the tax incentives have changed, but more that the returns from traditional real estate investments are more predictable. During the most recent economic cycle, investors are more interested in higher quality, lower risk investments such as self-storage that offer robust recurring cash flows and more predictable ROIs.
Other Trends to Watch Out For
There are also several secondary trends CRE investors should watch out for that could impact the market overall and make some commercial real estate investments more attractive than others.
Rent Relief is Slow
Since last December, Congress has allocated $46 billion in rent relief to provide emergency rental assistance. However, rent relief is still slow to reach renters and landlords, in part because local agencies responsible for disbursing federal rent relief are overwhelmed by the huge sums of money involved.
Rents are Rebounding
Commercial real estate rents across the country are slowly but surely rebounding. According to market reports from Cushman & Wakefield and CBRE, rents are forecast to increase across all property types this year:
The 2021 market outlook for alternative commercial real estate investments such as student housing, data centers, and self-storage properties is also extremely positive. Capital invested in alternatives has averaged approximately $90 billion annually over the past five years, more than double the previous real estate cycle.
As CBRE reveals, commercial real estate investors are attracted to alternative investments such as self-storage properties by the higher yields, stable income, diversification, and downturn protection in a recession.
Limited Housing Supply Will Remain an Issue
Fannie Mae was recently forced to revise several of its recent 2021 forecasts due to an ongoing housing market shortage. Sub-3% mortgage interest rates, under-building, and a 300% increase in lumber prices over the last 15 months are creating record-high home prices. Refinance origination volume is expected to reach a total of $1.1 trillion next year, as more homeowners pull cash out of their houses instead of selling.
A lower inventory of resale homes for sale combined with developers unable to keep up with demand almost guarantee the housing shortage will last for years. According to Freddie Mac, the U.S. is nearly 4 million single-family homes short of what is needed to meet demand.
Historically, the supply of homes increases and demand declines during a recession. But this time around that has not been the case. Housing demand has actually been higher, with more people working remotely and moving to bigger homes in smaller, more affordable cities.
A K-shaped recovery occurs when different segments of the economy and population recover at different rates following a recession. Over 22 million jobs have been lost since the pandemic began, with retail and hospitality being among the hardest industries hit. Although the employment outlook is improving, less than half of the people who were laid off have yet to return to work.
Commercial real estate investors are also impacted by a bifurcated recovery, with some property types outperforming others. According to a recent post by information and analytics company Trepp, the five of the largest recent CMBS loan losses came from a boutique hotel in Manhattan, a fashion outlet project in Las Vegas, and an eight-story office building in Houston.
Evictions and Housing Rebound Strong
The moratorium on evictions was implemented last September to prevent a potentially massive wave of evictions during the pandemic. Although the current residential eviction moratorium is scheduled to expire at the end of this month, nearly half of state attorneys general have asked the U.S. Supreme Court to maintain the moratorium.
According to Reuters, between 30 - 40 million people could be at risk of eviction unless the moratorium is extended, with lower-income renters among the most vulnerable. On the other hand, landlords claim they have been losing over $13 billion per month in rental income because of the moratorium while they struggle to pay their mortgages.
The ultimate impact any potential evictions will have on the housing rebound is anyone's guess. However, well-capitalized investors could benefit by creating affordable entry-level and workforce housing opportunities backed by government assistance.
Predicting real estate investment trends is difficult even in the best of times, let alone in a time when inflation is rising and so many people remain unemployed. The truth is that there is money to be made throughout every economic cycle when investors know where to look.
With a bifurcated K-shaped recovery currently under way, investments such as self-storage properties can provide commercial real estate investors with stable income and higher yields, along with downturn protection in case the economy does not quite recover as planned.