Making predictions is challenging even in quieter times, let alone in a year with a global pandemic. The Covid-19 pandemic will forever influence almost all aspects of our lives, including the use of real estate. However, what history has taught us is that following the struggle years, there is generally a great expansion not only in economic terms, but also in technology, innovation, art, music, medicine and education. Thus, as McKinsey points out, the post-pandemic recovery has the potential to accelerate change with focuses on social justice, health and wellness, remote work, households, workers, and companies.
This year, commercial real estate will slowly start recovering from the shock of Covid-19. As we noticed in the year 2020, this recovery will have its challenges and setbacks along the way. Here are the most impactful commercial real estate trends we can expect to see in 2021.
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1. The effects of Covid-19 on commercial real estate will be more pronounced.
A common theme in the media for the end of 2020 was that we lived through a horrible year and 2021 would be better for us all. That statement might not be true for everyone. What history has proven is that distressed asset sales do not appear on the radar simultaneous with the start of a recession. On the heels of government assistance, borrowers and lenders may continue to wish away problems for the first part of the year. However, some in this group will not be able to hold on, especially those in the hardest-hit classes. Distressed sales throughout the hotel and retail sectors will increase toward the end of the year, but we are unlikely to reach distress levels comparable to the Great Recession.
2. These will be the asset class winners.
As retail, hotel and office prices decline between 5% and 10%, industrial, data center, life science and single-family homes will continue to increase in value. Transaction volume in favorable sectors will likely remain lower than normal, which will support higher pricing due to increased investor competition.
3. Work from home continues.
While office workers stuck at home are experiencing fatigue, isolation and trouble balancing work and family life, companies will — at least for the first part of 2021 — continue with work from home policies. As a result, some companies, mainly larger organizations, will shrink their footprints as a cost-saving measure, if they are able. According to CoStar Group, corporate tenants put a record 42 million square feet of space on the office market in the second and third quarters of 2020. I believe this trend will continue through 2021.
4. Interest rates will remain low throughout 2021.
The Federal Reserve is very likely to remain accommodative on monetary policy, keeping short-term interest rates low throughout 2021. Its deliberate actions should combine to provide a favorable backdrop for commercial borrowers and a continued economic recovery alike.
5. Major cities will continue to see population decline.
New York City, Chicago, San Francisco, Los Angeles and more will continue to lose population. Even before Covid-19 hit, big cities had become expensive, with rents far outreaching the capacity of the middle-income American. Work-from-home policies and public health shutdowns even further accelerated the exodus from these large metros. People are looking for cities that offer a better lifestyle, lower cost of living and better weather. Some growth cities include Austin, Texas; Raleigh, North Carolina; Nashville, Tennessee; Salt Lake City, Utah; and Charlotte, North Carolina.
6. The suburbs are cool again.
As with other trends, Covid-19 is accelerating suburban growth, especially in the Sunbelt markets. While it may have been hard to believe a couple of years ago, millennials are leading a great urban exodus. They are getting married, having kids and finding their downtown apartments small and unsafe, particularly since the pandemic has stranded everyone at home. These families are seeking more space, affordability, better and more affordable education, access to nature and community connection.
7. Businesses will face the inequality that is all around us.
As is common with any pandemic in our history, the lowest socioeconomic classes are affected the most. In 2021, we will see a K-shaped recovery that favors certain industries and economic groups. Under this scenario, we see companies like Amazon, Google, The Home Depot and Walmart benefit while mom and pop shops, local restaurants and other service-based professions lag. Tech fortune will reach all-time highs while lower-income, blue-collar workers will suffer the most. This inequality will be especially pronounced in commercial real estate, with small shop space reaching unprecedented vacancies and applying continued downward pressure on rent prices.
8. Affordable housing remains an issue.
Even before Covid-19, millions of Americans lacked safe and affordable housing. This concern was only exacerbated because of the pandemic. The challenge in 2021 will be increasing delinquency in Class C apartments. Residents of Class C apartments have been hit the hardest, as a larger share are employed by the service economy such as hospitality and restaurants.
9. Environmental, social and corporate governance (ESG) investing steps into the spotlight.
The pandemic has reinvigorated structural trends that existed before, such as an increased focus on sustainability. Sustainability has taken a central role for economies and corporations and will propel 2021 as a year of green recovery and sustainable finance. Biden’s victory in the U.S. presidential election will support further momentum to this shift. According to IEA, a total of $240 billion was invested in energy efficiency across the buildings, transport and industry sectors in 2019. This trend will only intensify in 2021, as institutional commercial real estate investors will require tracking of ESG initiatives.
10. We'll see a mainstream rise of alternative assets.
Private real estate exposure will increase among asset allocators as it offers resilience in an imbalanced recovery. According to Prequin, "high equity valuations and negative yields from many government bonds are expected to push more investors toward alternative assets." Any serious asset manager or wealth advisor will add exposure to private real estate, focusing on industrial, healthcare and data centers.