Commercial Property Market Faces Uncertainty Ahead

2015 was a spectacular year for the commercial real estate market, and 2016 was a solid year. 2017, however, is likely to be a bit of wildcard, analysts say.  

Despite a recent rise in interest rates and the uncertainty surrounding the new regime in Washington, market watchers are forecasting a good year for the market, with stable prices and lots of properties changing hands.

Still, it also could go the other way.

“If interest rates go up much more than they have, transaction volume might come down some more,” said Jim Costello, senior vice president with Real Capital Analytics (RCA). “If sellers aren’t forced to sell, they could just sit on the property for awhile until things look more favorable to them.”  

Deal volume in 2016 dropped significantly compared to 2015 for properties valued over $2.5 million. Through November, the 2016 year-to-date transaction volume stood at $424.2 billion, which was down 10 percent compared to same 11-month period in 2015, RCA reported.

RCA’s numbers for the full-year in 2016 were not yet available, but it would take a huge month in December for 2016’s deal volume to match the 2015 levels. Transaction volume was trending down at the end of the year. In November, asset sales totaled $33.9 billion, which was down 6 percent compared to November 2015, RCA reported.  

Sales in 2016 were still strong compared to previous years since the recovery. Year-to-date through November, the overall transaction volume in 2016 was 12 percent and 35 percent above the 2014 and 2015 levels, respectively.

2016 saw fewer large mega-deals involving multiple properties compared with 2015, but single-asset sales volume remained solid. “If anything, 2015 was almost an aberration,” Costello said. He was optimistic that sales volumes this year would run ahead of the 2016 pace. He noted that, outside a few pockets of the country, the commercial real estate market hasn’t generally seen a building boom that could flood the market with new space and weaken demand for pre-existing buildings.

The new year brings uncertainty, however. Costello said the higher interest rates could eventually lower property values, causing a standoff between buyers and sellers in 2017. Higher interest rates tend to lower commercial asset prices by driving up capitalization rates. Cap rates in all classes have been at historic lows, which have propelled the market forward in recent years.

Costello also said the policies of President-elect Donald Trump also are not fully known, but will ultimately have some impact on the market.

On the campaign trail, Trump proposed a huge infrastructure spending plan, which could lead to a significant rise in interest rates. However, Trump’s pro-growth tax policies also could spur more activity in the market, Costello said.

“The initial reaction of the market was that, well, President-elect Trump was talking about all these potentially inflationary policies, so we better be careful,” Costello said. “Will that come through? It remains to be seen. I am not sure that [House Speaker] Paul Ryan is going to be happy spending lots of money in a [New Deal-era] WPA-style jobs program for infrastructure. That was the thing that was thrown out there that was making the market spooked.”

Ken Riggs, president of Situs RERC, said that the market ended 2016 in a stable position, with prices perfectly matching the values. He said the performance of each property is highly dependent on its asset class and location, and varies widely. He doesn’t expect an overall market correction next year, although investors are growing more cautious with each passing year. 

“There will be continued high interest for commercial real estate,” Riggs told Scotsman Guide News. “Investors will just have to be very selective, not only about the property types, but also where they invest within the capital stack.”

By Victor Whitman | Scotsman Guide