What Commercial Real Estate Investors Need To Know About COVID-19

There’s a lot of information going around right now regarding COVID-19, with much of it seeming to change minute-by-minute. As a real estate private equity sponsor, we have to analyze every piece of information in order to make the best decisions not only for our investors but also the economy as a whole. That is why we’ve decided to take a moment to examine the potential impacts of COVID-19 and the effects it’ll have on our global economy as well as the commercial real estate market.

COVID-19’s Impact On Our Global Economy

The Supply Chain & Stock Market
China’s supply chain market has been impacted heavily by the outbreak of COVID-19. Production of goods has faltered along with the distribution of finished products, creating a significant slowdown in the transport of raw materials that has vastly affected the global supply chain.

The immediate impact of the virus has been clear as the global GDP rate is assumed to be the lowest in 30 years (projected to be around 2%). In the US, the S&P 500 currently has a negative 24% return year-to-date in 2020.

Despite the supply chain slowdown and current state of our markets, we anticipate a significant economic surge when the virus passes and the flow of goods to resume – hopefully in the second half of 2020 – which should help introduce some stability back into our markets.

Unemployment
As many hourly workers and unions are forced to stay home, unemployment numbers will undoubtedly climb. However, this should only be temporary. The good news is that most economists do not yet see long-term systematic risk in the marketplace as governments are aggressively intervening to stabilize them. President Trump recently signed a Coronavirus Relief Bill that will provide immediate relief in the form of a monthly check sent to the U.S. citizens most in need.

Capital Market Volatility and Its Impact on Commercial Real Estate

As mentioned in a previous article, the stock market does not deal well with uncertainty. The real damage to the markets is driven by psychology, as fear takes over fact – which is best exemplified by the public’s inflated sense of scare leading to a mass run on toilet paper. As investors react to the uncertainty that comes with COVID-19, investment activity is likely to slow in the first half of 2020, with travel, entertainment and service industries being most affected.

It is our belief that we will start to see a shift to more defensive assets that offer greater income stability. Over the next few months and years, we anticipate increased capital deployment into yield-producing commercial real estate as some stock market risk is taken off the table and reallocated to the sector. With Treasury rates unbelievably low (the 10-year Treasury is hovering around 1%), commercial real estate will likely be the recipient of fresh capital inflow as individuals, pensions and institutional investors flock to the space.

The Future of Office Markets

The consensus to date is that the office market is well positioned to withstand the current COVID-19 disruption. Rental levels are historically high and income streams will be preserved as many tenants have existing long-term leases that must be fulfilled. However, as office utilization rates temporarily fall and remote-working increases, companies may use this time as a larger-scale test to explore policies, processes and infrastructure to gauge productivity and determine if working-from-home practices can be effective.

However, even if some companies adopt more generous work-from-home policies in the wake of this virus, we do not perceive this to be an imminent threat to future office demand. All established companies will still need a home base, and we do not anticipate that changing anytime soon.

Excelsior Capital’s Approach to COVID-19

Our plan going forward is threefold:

1. Increase Communication
2. Think Strategically
3. Remain Agile

Increase Communication
Though we believe we are meeting this outbreak head-on from a position of strength, we intend to proactively communicate across the spectrum to all of our audiences and investors. As unsettling as this time may feel, we see this as an opportunity to inform our investors, expand relationships with our tenants and negotiate with our lenders.

Think Strategically
We will be reviewing our relationships with banks, lenders, brokers and our tenants to ensure that we are adding as much value as possible.

Remain Agile
We have been and will continue to remain agile. This economic climate will likely shake out new acquisition opportunities and sources of equity that may not have existed prior. Many larger institutions do not have the ability to move quickly, so this will provide us with a unique opportunity to acquire assets whose sellers are looking for a quick transaction.

In Summary

Commercial real estate continues to offer good relative returns in comparison to other asset classes, despite the current economic climate. The differential between real estate yields and government bond yields remains at or near all-time highs, making it a quality choice for savvy, yield-seeking investors. As an asset class uncorrelated to the equity and commodities markets, and the increased volatility that comes with them, we expect investors to reallocate to our space over the next few years..

As our investors seek access to institutional quality real estate at an affordable entry point, cash on cash yield between 8% – 10%, and all of the advantageous tax treatment that comes from direct real estate co-investment, we expect to add new equity partners and our portfolio to remain resilient in the face of COVID-19.