The real estate market was a hot one in 2021, with average house prices skyrocketing nearly 20% amid limited inventory. The commercial real estate landscape changed as well, as the COVID-19 pandemic drove companies to implement ongoing work-from-home policies. Given these significant shifts, what can you expect for the coming year in the real estate sector?
In this blog series, we explore the trends we expect to see in 2022, including the following changes we may see in the real estate market.
- The direction of the pandemic will be critical to sector performance of the public real estate investment trusts (REIT): With hopes that the pandemic was subsiding, sectors that had suffered most in 2020, such as retail and lodging, led the REITs in rebounding in early 2021. Over the last several months, however, the Delta and Omicron variants have re-raised uncertainty levels on the timing of the economy’s return to normalcy. If the pandemic continues, real estate sectors that have benefited most from the underlying trends (residential, industrial, storage) will continue to lead the REIT market; however, if the pandemic eases and the economy resumes a healthy and steady growth rate, then the sectors that have lagged (retail, lodging, office) will have the potential for substantial relative upside.
- Despite common wisdom, rising rates have had a mixed impact on REIT performance: While REITs underperformed the S&P 500 in 11 of 16 periods since the mid-1990s, when 10-year yields increased notably, the relationship between REITs and short-term rates is a different story. The Fed raised the Fed Funds rate 33 times since 1995, and REIT stocks outperformed the market 60+% of the time in the following months. Additionally, real estate has generally provided a hedge against inflation, particularly for property types with shorter term leases, such as storage and multifamily.
- The recent surge in home prices may — or may not — continue: Home values and rents were both up about 16% through the third quarter of 2021, and strong demand appears intact. However, the outlook is less certain. Wage and materials inflation and supply chain issues may drive construction costs higher and perhaps limit supply, providing further upside to existing home values. However, mortgage rates have increased from 2020 lows, threatening the affordability of homes for many families, which could impact demand negatively, particularly in high-cost coastal markets.
- Trends toward flexibility, lifestyle and convenience are unlikely to change: The pandemic unleashed significant changes in personal and corporate life. Lockdowns resulted in demand for more space for living and a greater desire for remote working. These trends, in turn, accelerated migratory patterns to the suburbs, and to lower-cost, less-regulated metropolitan statistical areas (MSAs), primarily in the Sunbelt. Shutdowns also supercharged the desire to shop online, with convenience and safety, which has weighed on many traditional brick-and-mortar retail stores. Even if the pandemic recedes, these trends will be difficult, if not impossible, to reverse.
- The PropTech boom will accelerate: The pandemic provided new impetus and scope for technology adoption. Homeowners and renters are increasingly utilizing smart home technology to reduce costs and enhance safety. Office owners are expanding beyond initial efforts to use technology to more efficiently operate and manage properties, investing in PropTech platforms to facilitate the return to the office and offer competitive advantages to attract and retain tenants. These platforms maximize the ability of landlords to communicate with managers and tenants, and tenants to communicate with employees, as well as provide a suite of micro-services to enhance the user experience of tenants and employees in a building. Enhanced data analytics also should improve decision-making and facilitate transaction activity.
- ESG impact on valuations and ownership decisions will further increase: For public REITs, ESG pressures have been pushing companies for years to enhance their disclosures and proactively incorporate “E, S and G” in all of their business decisions. Moving forward, all building owners will see these pressures grow, as federal, state and local mandates will force adoption of ESG strategies at the building level. Environmental factors such as carbon and greenhouse emissions, climate and weather risks, and renewable energy have been front and center. Additionally, the social impact of products and services, human capital and human rights, and data privacy and security require a more focused effort on corporate responsibility, social equality, and diversity. Additional regulations in the future, with potentially high compliance costs or fees for noncompliance, will further raise the financial risks of not addressing ESG.
Follow the entire ICR 2022 trends series on the ICR Insights blog.
