How to Weather a CRE Recession

It’s no secret that things haven’t been great for commercial real estate for over a year. Since at least 2022, a cooldown has been in the forecast. Higher interest rates and other developing factors have led many to ask if a recession is coming for the CRE industry and the US economy at large.

In the world of CRE, recession could mean anything from a collapse to minor correction. Understanding the trends and how to stay ahead of them could be critical. Here’s what we think you should be paying attention to.

Is Commercial Real Estate Facing a Recession?

The US commercial real estate market is valued at around $21 trillion USD, but it faces challenges amidst rising financing costs and increased vacancies. Historical patterns suggest the market may be moving through denial, migration, and potentially panic phases.

Transaction volumes have decreased over 2023, and spreads between buyer and seller expectations have widened. Notably, the office market, estimated at $3.2 trillion, faces a significant shift due to remote work trends, with approximately half of office buildings currently occupied.

The 2020 crisis changed the way we work, introducing new patterns into real estate demand. This was exacerbated by changes in retail demands, leaving vast office spaces underutilized. Of course, this poses a risk of foreclosures, layoffs, and economic downturns, impacting property values.

However, while these factors are certainly not good, they don’t mean the sector is crashing. Is a recession on the horizon? Quite possibly.

Nevertheless, some point to positive signs like the robust millennial population, the global economic influence of the US market, and the potential for lifestyle revolutions through remote work, technology shifts, and others. These all indicate potential resilience in a downturn.

How Would CRE Be Impacted?

Recognizing fundamental shifts is crucial for navigating the CRE landscape. There is much reason to believe a recession is developing in the near future. It may be severe, mild, or it might even be years away. But whatever challenges exist, systemic strengths and optimistic prospects for the future suggest the risk lies more in missing strategic moves than in an imminent recession or market collapse.

If a recession does come due to increased interest rates, it will likely come in the form of a moderate downturn driven by weakened fundamentals and higher capital costs. But it will have far reaching ramifications. Lower asset values may also play a role.

The impact on the office sector could be significant, as hybrid working trends reshape demand, requiring adaptation in cities and the real estate industry. However, certain sectors, like data centers and industrial real estate, may show real resilience.

While a recession could mean reduced real estate investment and leasing activity, there are also positive signals. The market is not over leveraged, there is a strong balance sheet, and growth drivers such as the digital economy and reshoring of manufacturing can minimize damage. That said, it will likely continue to be a buyer’s market – something CRE professionals have not seen for a decade.

Geopolitical improvements, such as the end of the Ukraine-Russia war, could ease the recession’s impact, with falling commodity and food prices and increased stimulus in the Asia-Pacific region. Still, there is risk going forward, and CRE firms should be cautious. A 2024 recession could reshape the CRE landscape, impacting asset values, demand patterns, and investment dynamics.

Resilience Measures You Can Take

Whatever the future holds for commercial real estate, there are some common-sense steps to help you weather a storm.

1. Keep Cash Flowing

Make sure you’ve got some cash on hand or easy access through credit lines when banks tighten up during tougher times. Having a financial safety net to cover gaps and grab opportunities that may pop up can set you up for success in a CRE recession.

2. Lighten the Load

Don’t let high debt levels knock you out during a downturn. Deleverage, even if it means selling assets.  This creates resilience and increases flexibility.

3. Smart Loan Moves

Refinance any existing debt to give yourself more runway. Push those big payments five to ten years down the road so you can handle any bumps along the way. Try to negotiate upfront on what happens if things don’t go as planned.

4. Hold Off on Big Projects

Don’t dive into major projects that need lots of cash. When banks stop lending and owners can’t refinance debts that come due, it’s smart to have wrapped up big projects in advance to minimize risk exposure. You don’t want to be delivering a big project in the middle of a crisis.

5. Bet on the Winners

Focus on investments that can weather the storm. Stay away from properties that might become obsolete, like old industrial spaces and offices with less-than-ideal features. Keep an eye on developing industry trends and changes happening in the industrial, retail, and office spaces.

In short, take steps now to minimize the blow of a downturn or recession.