Commercial real estate market expected to grow despite rising interest rates

real estate
Building materials are shown at a construction site in Hiawatha. CREDIT RICHARD PRATT

While rising interest rates are posing a risk to economic growth, Lawrence Yun, chief economist for the National Association of Realtors, expects the commercial market to perform well despite the headwinds, especially in the short term.

During the 2022 Realtors Legislative Meetings’ Commercial Economic Issues and Trends Forum, Mr. Yun explained that while the commercial market generally follows the overall economy, some things are different this time.

“Outside of the office sector, which is lagging behind as employers allow increased remote work flexibility to keep and attract talent, commercial real estate continues to strengthen,” Mr. Yun said. “The industrial sector is booming, retail is turning positive, the hotel industry is recovering, apartments are doing very well, and rents are rising in all commercial sectors.”

The residential housing shortage will result in solid rent growth over the next two years, Mr. Yun added, with apartment rents expected to keep rising by more than 10%.

When compared to the challenged office sector, Mr. Yun noted that the industrial property market is getting a second wind from the shift to “just-in-case” inventory buildup as wholesale inventories boom.

“With strong demand, industrial rents are likely to keep rising solidly in the next two years while vacancy rates will remain below 5%,” he said.

Though the office sector continues to face challenges, Mr. Yun said not all markets are equal.

“While the overall office market is wobbly, some variance exists depending on location,” he said. “We’ve seen improvement in some midsize markets as companies seek more affordable office locations away from major U.S. cities.”

The volume of multifamily investment in 2021 was the greatest year for any asset class in history, with $352 billion of investments, according to Matt Vance, senior director of CBRE, a commercial real estate services and investment firm.

“Global economic uncertainty, persistent inflation and rising interest rates have increased the cost of capital and overall capital market volatility,” Mr. Vance said. “These conditions have restricted loan proceeds, which has negatively affected asset pricing.”

Mr. Vance said he expects that with the rise in hybrid-working models, employees will spend an additional day or more working remotely when compared to pre-pandemic trends.

“An average work week with 3.5 days spent working in the office would net a 9% reduction in office demand, but that’s if it could happen overnight,” he said. “Future economic growth and job creation will have a balancing effect on the impact of virtual work.”

Mr. Yun urged commercial investors to consider land development as an investment opportunity given the scarcity of developed residential lots that are essential to addressing the housing supply shortage. He made an appeal to local governments to ease land zoning regulations and ordinances, which Realtors reported have become more burdensome.