The Impact of the CoronaVirus Pandemic on Commerical Real Estate

With some companies having work from home mandates for the rest of the year and even into 2021, some sectors of the commercial real estate markets have over-performed due to the increased need for those asset classes while some have underperformed due to the decreased demand. There has bee a couple of distressed opportunities in the real estate market that have come up due to this phenomenon.

Commercial real estate is an asset class that is typically only available to institutional investors but with the advent of technological improvements within the fintech (financial technology) space, this asset class has been opened to both accredited and non-accredited investors. Commercial real estate, along with residential real estate, serves as an alternative asset class that helps diversify from the stock/equities market. When comparing stocks and real estate, they each have their own benefits and drawbacks. Stocks are liquid and can be cashed out at any moment, however, stocks tend to be more volatile due to this liquidity benefit. Traditional real estate on the other hand is illiquid and it can take 3-5 years before an exit. Stocks are also relatively cheap when compared to real estate. The transaction costs for most commercial properties are in the millions range and this can make it difficult for the everyday Joe to access the commercial real estate market. Real estate does offer tax advantages such as depreciation that cannot be accessed through stock investing but the use of retirement accounts can also offer tax benefits within the equities market. Most investors see a place for both asset classes in their portfolios.

Real estate is usually thought of as a hedge against inflation and some types of real estate can be recession-resistant. I tend to focus on the cash flows offered by a real estate investment and then after that, shift priority to the tax benefits and future appreciation. The appreciation portion of real estate is not guaranteed as with stocks. It does take some effort to study trends and areas within the country with excellent growth prospects. Platforms such as M1 Finance (my favorite stock investing app) and private fintech companies such as Fundrise and Groundfloor are trailblazers that have opened up both the commercial and residential real estate asset classes to all individuals regardless of income or net worth through REITs and real estate crowdfunding. I have investments in a multitude of deals through NextseedFundriseGroundfloor, and Worthy Bonds.

In this blog post, I will highlight the impact of the global pandemic on the commercial real estate market as seen thus far and project the expected performance as we move into the next year. Dependent on the timing of finding a vaccine for the CoronaVirus, I do not expect a full recovery in some asset classes within the commercial real estate industry till late 2021/early 2022. Hospitality and Retail (think malls) being the specific sectors that will take a while to rebound. Investors within those sectors will want to make sure they have cash reserves to cover the interest payments charged by the financial institutions and any needed repairs during the recovery period as cash flows are impaired.

With that, let us discuss each sector of the commercial real estate space in detail:

1. Multi-family: This involves renting out apartment units to individuals and collecting rent typically monthly. Multi-family is an extremely popular type of commercial real estate and has gone through many economic cycles. People will always need a place to sleep making multi-family a safe bet. Due to the pandemic, we are seeing an increase in demand for homes within the suburbs and outside of major cities such as New York and San Francisco. The work from home order has further incentivized families to reduce expenses by moving to lower cost of living areas while being able to maintain a similar income. I expect the trend to continue in the long run, although, at a slower pace than current.

2. Hotels: This ranges from the nearby airport hotel to the skyscrapers you see around the city. Casinos and resorts also fall under this category. It is all about hospitality for business travelers and tourists. Hotels are typically within a consumer's discretionary budget and due to this, it tends to be more cyclical in nature especially as the economy grows or shrinks. This type of commercial real estate is not recession-resistant as we can see from the current pandemic. Most hotels are shut down and those that are open are barely generating enough cash flow to cover the interest payments and daily expenses. Thanks to the relief bill, some of these hotels have been able to stay afloat but the question remains, "for how long?" 

3. Retail: This includes buildings such as Walgreens which are considered single-tenant buildings to large malls. Simon Property Group (SPG) would be an example of a commercial real estate company that owns many retail buildings. In fact, SPG is the largest shopping mall operator in the United States. Investors can purchase the real estate investment trust (REIT) of Simon Property Group (SPG) on M1 Finance (a brokerage account with no trade commissions). Strip centers and neighborhood centers typically owned by Walmart or Target are also considered retail buildings. Restaurants are also considered retail and as you can tell, this type of commercial real estate can be very cyclical and is not immune to recessions so this is something to consider when making a bet in this sector. The pandemic highlights the wide difference in performance from restaurants/shopping complexes with more traditional grocery outlets. I anticipate the demand for grocery stores to continue through the pandemic. We have seen the majority of the restaurants start to pivot and the rise of curbside pick-up. I do expect this asset class to fully recover by the end of 2021. The stimulus package and landlords deferring rent obligation payments should be able to keep most restaurants afloat during this period.

4. Industrial: Ever wondered where Amazon stores its goods before it gets shipped? Yes, that is correct, in warehouses which is what is classified as an industrial commercial real estate property. Research and development labs are also within this same classification as well as manufacturing plants. These properties are typically on the outskirts of urban cities. Industrial storage properties are also popular near the coast as imported or exported goods can be stored there before being distributed. Due to the increasing demand for e-commerce and online shopping, industrial properties should enjoy decades of growth. It should also be able to stand tall through recessions since technological improvements have made it easy to order anything online with one click of a button.

5. Self-Storage: A self-storage facility is one of the most prominent recession resistant commercial real estate investments one can make. Similar to the analogy that people will always need a place to stay, people will also always need a place to temporarily store items as they down-size during a downturn. The self-storage facility is similar to multi-family in the sense that location is key. It is extremely important that these properties are within a city or within a customer's reach so the demand can keep up with the supply thereby maintaining a low vacancy and creating a consistent cash cow.

6. Senior Housing: Just like the name sounds, senior housing is a real estate asset class that involves owning independent/assisted living communities and nursing homes. It is no secret that the life expectancy of the US population has increased by almost 10 years between 1960 and 2015. With this statistic in mind, senior housing should continue to have a need for in society. Residents of the US who are 55+ years qualify for independent living and this opportunity attracts a class of investors who are willing to bet on the life expectancy of baby boomers. However, the pandemic has changed the landscape of how senior housing is viewed as it could be an epicenter for the disease if one person gets contaminated.

7. Office: Similar to the name, this asset class involves investing in office buildings that are then rented by small or large companies. Rental income is realized from such investments. Steady cash flows can be expected if the building is leased by credit-worthy companies. The benefit of an office type investment over a residential type investment is due to the fact that companies who lease office space sign long term contracts (typically 5 years), so it would be easy to lock-in a steady stream of income for that term in the case of an economic collapse. Based on the impact of the CoronaVirus, most companies are starting to reconsider the extent of the office space they really need. Some jobs are becoming remote helping lower expenses and improving cash flows for these companies. I anticipate this trend to continue to a smaller extent once the pandemic is over. I would only recommend investing in the office space when you have properties low leverage and with a substantial cash reserve that can be tapped into in the short-term in the event of an economic downturn as we have right now.

In summary, the pandemic has led to winners and losers during this period and I do not expect full recovery till the end of 2021. There has been a tightening in lending in the capital markets due to the increased risk, even with interest rates being at historic lows. Each sub-sector has experienced different dynamics in supply and demand. New 18-month constructions should be immune to the majority of the current events and should serve as sure bets to take advantage of the lower cost of labor within the industry.

Financial Savant was born in 2018 and has received a really good reception so far. This blog serves as a resource to help spur open discussions on generating income, saving, investing, and overall wealth management.

Every article written on Financial Savant is based on first-hand experience and pertain to ongoing current events within the financial and economic-sphere.

For a detailed discussion of my favorite financial tools which I typically use weekly, you can visit the sidebar on the homepage. I have thoroughly researched all the products and use them personally. I have cut through the clutter so you do not have to. Financial Savant is glad to be a part of the #FIRE movement as we strive to achieve financial independence opening up a world of possibilities while creating generational wealth.

Financial Savant recommends investing in real estate through a hands-off approach using Fundrise and managing your finances using Personal Capital.


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