Real estate: Deals 2022 midyear outlook

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In the face of uncertainty, real estate momentum continues

  • Continuing a trend from 2021, real estate deal activity maintained a strong pace, with asset-, portfolio- and entity-level transactions in the first quarter of 2022 exceeding the same period in 2021.
  • While there has been some cooling in the red-hot industrial space, industrial and multifamily assets have continued to drive growth in transaction volumes. This has been driven by continued supply constraints, particularly in multifamily, where the lack of affordable housing continues to be a problem.
  • Previously niche sectors, such as cold storage, data centers, life sciences and content/media-related real estate, are emerging as cornerstones of real estate investment activity — another trend that has continued from 2021. Additionally, as consumer spending continues to rapidly shift from goods to services, we are seeing increased attention to experiential assets (e.g., marinas, ski resorts, golf courses, etc.).
  • In the face of uncertainty on many fronts, we continue to believe that deal activity in the second half of 2022 will be robust as:
    • Non-traded real estate investment trust (REIT) sponsors continue to deploy the significant capital raised;
    • Long-term investors recapitalize existing funds through continuation vehicles in sectors experiencing strong demand drivers and favorable supply;
    • The listed REIT industry continues to consolidate given growing importance of scale, growth and capital considerations; and,
    • More opportunities emerge given current levels of replacement cost, financing maturities and equity market valuations. These trends are contingent on the absence of any significant deterioration in financing markets. 
  • We expect such activity to be characterized by an increasing flight to quality, a focus on underwriting assumptions given higher interest rates and inflation, enhanced attention to environmental, social and governance (ESG) considerations, and a focus on portfolio optimization as investors deal with rising capital costs, macroeconomic uncertainty and inflationary pressures.

Continued resilience

Commercial real estate transaction activity continued its post-pandemic surge. During the first three months of 2022, total volume is up 68% compared to the same period for 2021.

So what happened? Most notably, transaction volume in the first quarter of 2022 for retail is up 104% versus the first quarter of 2021, due to a focus on grocery-anchored assets given their proven resiliency, coupled with consumer appetite for experiential in-person brick-and-mortar retail therapy. Hospitality is not far behind, with transaction volume up 101%, underpinned by the recovery seen in the US lodging sector, particularly in March of this year, and in contrast to the low levels seen in the first quarter of 2021.

Comparatively, the industrial sector saw transaction volume increases of 76% during the first quarter of 2022 versus the same period in 2021. E-commerce and just-in-case inventory stockpiling following supply chain challenges contributed to this growth, which we expect to continue for the next two years before the market potentially softens as it responds to the continued pipeline of additional space in excess of historical averages.

Meanwhile, transaction volume in the office sector was up 62% versus 2021 in the first three months of 2022, driven by a return to work and associated increases in leasing activity, which has resulted in positive net absorption. We expect activity to continue for recently constructed or redeveloped assets and/or assets with advanced ESG certifications, while older assets will experience headwinds.

Lastly, we expect transaction volume in the multifamily sector to remain strong given demographic shifts coupled with supply constraints. Activity is supported by attractive returns relative to risk, the ability to reset rents to market on a monthly basis and a progressively more challenging for-sale housing operating environment.

Sub-sector outlook

Workers return but evolution continues

The office sector will continue to evolve to meet the changing needs of its users. PwC’s Global Workforce Hopes and Fears Survey 2022 found that over two-thirds of full-time workers are concerned about missing out on development opportunities, largely seen to take place at the office. A hybrid model appears to be the winning preference as the 2022 survey indicated 62% of employee respondents prefer a mix of in-person and remote work, compared to 55% of respondents who wanted to work remotely one- to four-days per week in our 2021 survey. The return to work helped increase leasing activity during 2021, resulting in positive net absorption. While activity in the past year was approximately half of the average absorption from 2015 to 2019, and uncertainty remains, future demand is expected to return to pre-pandemic levels over the next five years based on an analysis of forecasted absorption per CBRE-EA as a percentage of inventory. Looking ahead, demand is anticipated to be bifurcated with respect to industry and product quality to meet the changing ways in which our offices are used to facilitate learning, development and community.

Ever the darling, but momentum may slow

The sector is still in favor, but the market is beginning to see signs that the whirlwind momentum is slowing. Notably, Amazon publicly announced that it will slow industrial expansion, raising questions about overall demand both from blockbuster users of space as well as the trickle-down effect. Demand spiked in 2021 at nearly 3% of total inventory as multiple demand factors (e.g., e-commerce, just-in-case inventory stockpiling, etc.) began to grow post-pandemic. As a result, rent growth has surged in the past years to the mid- to high-single digits on a national basis and yields compressed to the low 5%. The strength of the sector is projected to continue for the next two years as demand is expected to outpace new supply, but market fundamentals may begin to soften in future years as the market deals with the anticipated volume of new space. Future rent growth driven by tailwinds from e-commerce and inventory replenishing is of utmost importance for investors to monitor given potential cap rate compression in the face of rising interest rates.

Fundamentals hold steady

Multifamily demand remains robust and supply struggles to keep pace, particularly in the Sun Belt markets that continue to attract positive migration. While post-pandemic demand declined initially, it is still strong enough to drive high rates of rental growth amid labor and material shortages that have limited any onslaught of new supply. Looking ahead, rent growth is projected to moderate from recent rates as pending supply enters the market. Still, the overall housing market will struggle to deliver adequate apartment and single-family homes in the near future, which will continue to benefit the apartment, single-family for rent and other alternative housing sectors. As recent increases in housing costs have outpaced household income growth, affordability remains a societal challenge and the industry can lead the charge in bringing solutions to bear. 

Fundamentals show signs of positivity

Retail activity is positive, but still at lower levels than pre-pandemic. The retail sector pulled forward some oversupply problems during the pandemic that were looming beforehand. As a result, the sector is finding new footing, and the focus remains on experience, convenience and flexibility — as well as essentials given the rise in inflation. Omnichannel offerings cater to the consumer’s desire for options and will benefit those retailers who deliver beyond the brick-and-mortar. However, greater efficiency is required for retailers to support growing sales with a smaller, but still existing, brick-and-mortar footprint. Creating such efficiency is also driven by consumers’ increasing focus on necessities due to inflationary pressures that may result in higher inventory levels. Investors and properties that can capture demand from retailers meeting such investor demands will be better positioned to ride through the continued slog of supply.

Fundamentals benefit from return of travel

After initial hiccups in the recovery timeline caused by a surge in new infections from a new COVID-19 variant, the recovery of the US lodging sector accelerated in February 2022, driven still largely by leisure travel that is expected to continue to be strong throughout the summer months. Business travel — both individual and group — is starting to emerge robustly. The combination is expected to result in revenue per available room (RevPAR) levels exceeding peak 2019 levels by the end of 2022, driven entirely by rate increases as hotels experience strong pricing power. The strong recovery is resulting in significant deal activity with YTD volumes (through April) increasing by about 60% compared to the same period last year. Limited-service hotels continue to be the driver, constituting over 60% of the transaction volume. Looking ahead, investor sentiment is expected to continue to favor limited-service hotels, albeit full-service hotels are expected to be favored by long-term investors, including sovereign wealth funds, high-net-worth individuals, and family offices. Opportunistic US private equity (PE) investors are also expected to remain active in select markets.

“Activity in Q1 of 2022 was consistent with our expectations. Moving forward, we see activity remaining robust as investors express their creativity and rotate to experiential opportunities to capitalize on an acceleration in services-related spending.”

— Tim Bodner, Real Estate Deals Leader

Key deal drivers

Private capital influence on M&A grows

As highlighted in previous deal outlooks, dry powder levels remain at all-time highs, with increasingly higher levels being raised through private vehicles such as non-traded REITs and private equity funds. Continuing from a record high last year, non-traded REITs raised $12.2 billion in capital during the first quarter of 2022, with the largest share continuing to go to Blackstone ($7.8 billion), followed by Starwood ($2 billion) according to Stanger, and these inflows are likely to increase as new players enter this space. This private capital has allowed for the continued trend of large REIT M&A consolidation seen in 2021, as highlighted by Blackstone’s $12.8 billion acquisition of American Campus Communities in April 2022 and other large REIT acquisitions such as Cedar Realty Trust, PS Business Parks, Inc. and Preferred Apartment Communities, Inc.

Return to capital discipline

While dry powder levels remain high, given higher costs of capital and the overall inflationary environment, investors are increasingly focused on capital efficiency as they look to deploy capital which has caused some volatility in the market. This has had more of an impact on growth investment propositions such as proptech and special purpose acquisition companies (SPACs), as investors show increased caution and focus on fundamentals, profitability and cash flow. SPAC transaction levels have fallen off in FY 2022 for these reasons. While higher costs of capital add to the overall deal consideration, inflationary pressures also impact the replacement costs of assets, leading to increased competition for existing assets as investors look to deploy dry powder. 

Retail resurgence

The retail resurgence continues with consumers steadfast in their attraction to physical stores in search of experiential retail therapy which they cannot get online. As a result, the majority of global retail sales still occur in brick-and-mortar locations and this contributed to store openings outpacing store closings in FY 2021, helped by fewer than expected bankruptcies as lenders worked out favorable terms with borrowers, as did landlords who deferred rent payments and negotiated lease terms. This has translated into improving cash flows and enduring fundamentals which are holding up well, attracting investment from PE and others, keen to get in on the action and be open for business.

Navigating uncertainty

Global economic uncertainty, persistent inflation and rising interest rates have increased the cost of capital and overall capital market volatility. However, despite these headwinds, we expect the commercial market to perform well, especially in the short-term. Outside of the office sector, which is lagging behind as employers allow increased remote work flexibility to keep and attract talent, commercial real estate fundamentals continue to strengthen. The industrial sector is booming, retail is turning positive, the hotel industry is recovering, apartments are doing very well and rents are rising in all commercial sectors driven by lack of supply and inflationary pressures.

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Tim Bodner

Tim Bodner

Real Estate Deals Leader, PwC US

Andrew Alperstein

Andrew Alperstein

Real Estate Acquisitions Leader, PwC US

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