CRE Total Returns Forecast to Decline in 2023: ValTrends Report

Commercial real estate performance cooled in the third quarter of 2022 amid rising interest rates and a challenging capital markets environment, with both returns and deal activity declining. That’s according to the latest ValTrends report, “Receding Tide.”  

SitusAMC Insights Senior Director Peter Muoio, PhD, and Jennifer Rasmussen, PhD, Vice President and Head of Thought Leadership and Publications, presented the third-quarter 2022 survey findings and the outlook for the economy, capital markets, and property types at the Quarterly Valuation Trends webinar on December 13, 2022. 

“Since the Fed started its aggressive tightening in June, there has been a marked sea change in the commercial real estate space, particularly in the capital markets,” Muoio noted. That’s sparking uncertainty and a flight to cash, according to the survey of institutional and regional investors and appraisers. The SitusAMC Insights survey found investor preference for stocks hit a record low in the third quarter, and the preference for commercial real estate plummeted to the lowest level since the Great Financial Crisis (GFC).  

That same uncertainty is shifting investor sentiment to hold commercial real estate. In 3Q 2022, 73% percent of survey respondents were inclined to hold, compared to 44% a year earlier. “In an uncertain environment people sort of standstill,” Muoio said. “That was the massive choice of the investors we have been talking to, with an even split between buy and sell among other respondents.”  

Capital availability has plunged over the last two quarters, particularly debt, investors say, though some report loosening underwriting standards as lenders seek to get deals done. Transaction volume has decelerated as higher financing costs widen the chasm between buyers and sellers, slowing price growth for all property segments.  

Apartments remain the darling of investors, with 59% of respondents calling it the best property type, far outstripping the second-favorite sector, retail, at 19%. “Even though rent growth has slowed from its record pace we’re seeing high occupancy across the board,” Muoio noted, especially as higher interest rates and home prices making buying less affordable for many consumers. In the face of potential recession, multifamily is “the property segment with the least to lose,” he added. 

Meanwhile, investors agree that the office sector remains challenged, with some 82% of respondents calling that sector the worst property type. National daily office use has remained steady since September, with the average holding below 50%. “Even without a recession, vacancies for the office sector will head up to 19% for next year and stay there for the next couple of years before easing down,” Muoio said. A rush to quality is driving higher rents in Class A office space, even as vacancies grow amid new supply. One bright spot in the beleaguered sector is medical space. Despite the advent of telehealth, these properties are more immune to the secular changes in other office use, Muoio noted.

CRE total returns will continue to decline through the end of the year and in 2023 before turning positive in 2024, according to the SitusAMC Insights Total Return Forecast. “We expect sharp (2022 annualized) year-over-year declines in price growth for all property types. But we are coming off record high year-over-year price growth in 2021,” she explained. “Even though (year-over-year)  industrial price growth is coming down, growth is still at a double-digit rate.”

The Val Trends report, “Receding Tide” 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.