Amid Rising Uncertainty, Investor Preferences Shift to Bonds and Cash in 2Q 2022

Investor preferences shifted sharply in the second quarter toward bonds and cash amid market and economic uncertainty, including rapidly rising interest rates, fears of recession, post-COVID changes, and geopolitical instability, according to the latest ValTrends report, “Inflection Point.” SitusAMC Insights Senior Director Peter Muoio, PhD, and Jennifer Rasmussen, PhD, Vice President and Head of Thought Leadership and Publications, presented the second-quarter 2022 survey findings and the outlook for the economy, capital markets, and property types at the Quarterly Valuation Trends webinar on September 12, 2022.

“While still the most preferred asset, the preference for CRE has clearly dropped sharply over the past few quarters,” Muoio said, particularly as bond yields have become more attractive. “Not surprisingly, the preference for stocks has plummeted to the lowest since we initiated this data back in 2007.”

The perceived potential return relative to risk dropped sharply quarter over quarter, the survey found. In an instant poll, the hosts asked webinar participants if current commercial real estate values are reflective of the risk involved. Some 58% said values were overly optimistic. Institutional investors polled in the second-quarter survey agreed, declaring commercial properties the most overpriced since the Great Financial Crisis. Meanwhile, investors showed increasingly caution, with 60% recommending “hold,” almost doubling from 32% in the same period a year ago; and just 25% recommending “sell,” down from 42 percent. “Buy” recommendations dropped from 26% to 15%.

Investors say capital availability, particularly debt, continues to fall, while underwriting discipline remains relatively stable. “We would not be surprised to see discipline increasing in the coming quarters as that perception of risk works its way through the market,” Muoio noted.

Rising interest rates and fear of recession are playing out in sector preferences, the survey found, with a dramatic shift from industrial properties to apartments. Just 10% of respondents said industrial was the best sector, down from 47% quarter over quarter. “That ardor has turned toward apartments, reflecting their relative resilience in the face of recession, and the sharp deterioration of single-family housing as a competitor amid rising mortgage rates and still-high prices,” Muoio explained. The preference for multifamily nearly tripled on a percentage basis, from 21% to 60%.

Industrial returns tumbled over 500 basis points in the second quarter to the lowest level since the beginning of 2021, and that pullback is expected to continue in 2022. But overall the segment remains solid, posting a one-year trailing return of 47.7%. Industrial flex outperformed warehouse and R&D. Space market fundamentals are robust, helping to boost forecasts even amid a slowing economy. “Vacancies look to remain nearly steady at current low level over the next five years, and rent growth will be strong but somewhat below what we’ve seen recently,” Muoio said.

In the retail sector, high-quality, well-located assets continue to perform, led by neighborhood community centers and grocery-anchored assets, Rasmussen noted. Rising inflation and recession concerns are elevating concerns about malls. But August consumer sentiment jumped, which bodes well for retailers heading into the holiday season, she said. Some investors see upside potential, with sell recommendations falling to 21% from 40% last quarter, and buy recommendations rising moderately to 14% from 7%. Retail transaction volume soared, up 45% year-over-year to about $23 billion, with the focus primarily on the power centers sub-type. SitusAMC Insights is forecasting steady retail returns over the next few years.

As hybrid work becomes the norm for many corporate occupiers, office sector fundamentals are expected to remain weak. “Occupancy is still about 160 basis points below pre-pandemic levels, and net absorption was negative in the second quarter,” Rasmussen said. “Even though we've had four consecutive quarters of positive rent growth, effective rent is still half a percent shy of pre-pandemic levels.” Bidding pools have become shallow, bid-ask spreads have widened, and sellers are pulling properties off the market to hold the assets, Rasmussen noted. As tenants rethink space needs and further development adds to inventory, SitusAMC is forecasting poor returns for the office sector through 2023.

The apartment sector is enjoying some strong tailwinds, with healthy rent growth expected in the next few years. Apartments comprised 45% of total deal volume in the second quarter, the highest percentage on record, and prices are up 24% year over year. But rent-control, which is gaining steam in markets such as Florida, California, Minnesota, New York and Nevada, could impede momentum.

The Val Trends report, “Inflection Point,” offers a more comprehensive look at the latest proprietary insights on valuation trends and space market fundamentals, as well as exclusive survey data on investor appetites for CRE versus bonds, equities, and cash. Download the free, 28-page report here. To access the ValTrends Quarterly webinar presentation, click here. Learn more about SitusAMC’s research and data offerings here.