The past decade was a roller- coaster ride for property investors, memorable for many ups and downs and unexpected twists along the way. But despite the market’s dramatic rise and fall, the parallels between now and 10 years ago are striking. Not only have prices returned very close to where they stood a decade past, but sales volume has as well.
In both post-recessionary periods, real estate investors rightly took pride that overbuilding was not a cause of the decline, yet vacancy soared nonetheless. Amazingly, then and now, commercial property continues to attract new investors despite adverse economic conditions.
After the recession 10 years ago, when vacancy rates approached record highs, as they have recently, commercial property still emerged as one of the most highly desired investment alternatives, a clear trend today as well. Then as now, investors of all types established or raised their allocation of capital to commercial real estate.
What is most noteworthy is that at both times, the inflows of capital preceded any improvement in fundamentals causing a unique phenomenon: prices can rise even if rents and occupancies fall. Because of the poor fundamentals, reports of record and near record prices for top properties are just as surprising now as they were then. This disconnect of the capital and leasing markets led to more discussion of a pricing bubble in 2003-2004 than there ever was in 2006-2007, a time when it was widely assumed that rents would only grow. Such questions are already starting to arise again in the current market.
Why after each recession and before any meaningful improvement in the fundamentals has commercial real estate become a target for a wide spectrum of investors? A decade ago like today, investors were starved for yield and in search of “hard” assets. Yields on most commercial properties averaged 500 basis points or more above comparable US Treasury rates, an attractive risk adjusted return relative to other asset classes. The attraction to “hard” assets in the early 2000s is easy to understand because so many paper dot-com profits evaporated—leaving nothing to rebuild on. Real estate, however, does not blow away. Today the attraction to “hard” assets is as easily embodied in the record price for gold as it is for trophy towers.
The recessions of 10 years ago and over the past two years have each caused investors to re-examine their holdings and allocations of stock, bonds, real estate and other asset classes. The good news for the commercial real estate industry is that after each difficult economic period, investors not only have decided that they want more commercial property, they have also come to this decision well before tenants conclude that they need more space.