ACRES Survey Outlines CRE Challenges and Opportunities in 2023

While many viewed 2022 as a year of recovery, it seems that the key driver heading into 2023 is uncertainty.

That’s the resounding answer when we asked our clients and partners what’s ahead for commercial real estate in 2023.

We surveyed our clients and partners about what’s ahead for commercial real estate in 2023. When asked how they foresaw US economic conditions, the overwhelming majority answered, “somewhat worse,” citing their hesitancy to deploy capital now when there may be a clearer picture of the macro economy in 4-6 months.

The current confluence of economic events has lenders reducing LTV to protect themselves.

While rates remain high many borrowers still expect 1Q2022 terms. Lenders are hesitant to deploy “too much” in fear of a major correction, but capital appears to be available for those borrowers willing to inject more equity into their projects. As buyers and sellers readjust their expectations, transactional activity should pick back up, but it could take a few quarters before that happens.

Respondents also suggest that real estate investment is likely to remain weaker for the foreseeable future.

The combination of rising interest rates, supply chain issues, the lingering pandemic and inflation concerns are causing investors and lenders to hesitate. Right now, there doesn’t appear to be a clear path as to how any of these issues will be resolved. However, if the expectation that the Fed will reverse course on interest rate hikes comes to pass, that will be the greatest potential driver of new activity in commercial real estate.

When it comes to specific asset classes, most respondents felt that vacancies are likely to increase in the office, retail, and hospitality sectors.

While some brick-and-mortar retailers, like Barnes & Noble, Burlington and TJX Companies are expanding locations, other retail locations, like older, Class-B and C malls in out-of-the-way locations, remain acutely challenged.

However, to quote Sun Tzu, ‘in the midst of chaos, there is also opportunity.’ While there’s bound to be turmoil in the commercial real estate market tied to these issues, it will create opportunities for those who are well capitalized. There is plenty of capital available for distress, so investment is likely to pick up on that front. For example, the aforementioned Class B & C malls are prime candidates for adaptive reuse, as their locations and proximity to parking could be used for development of market-rate or affordable housing. Dock doors and clear heights can be compatible with industrial use for warehouses or fulfillment centers.

The impact of the pandemic probably affected the office sector the most this past year.

It created uncertainty for owners, tenants, and lenders alike, pushing vacancy rates in certain B and C class buildings to almost unrecoverable rates. Many of these buildings are at a crossroads and either need to be completely renovated to attract new tenants or convert to another use entirely.

One challenge, however, if that even strong sponsors are having a hard time securing debt to realize their visions – many lenders are still hesitant to lend on retail or office assets, still relying on the tried and true, but crowded, multifamily and industrial sectors.

The majority of those who took the survey felt that the dearth of lending activity is mainly due to the cost of funds, followed by tightened underwriting criteria. Others commented that it’s the uncertainty of the markets and inflation that have led to stagnated lending this year.

In addition, most felt that the elimination of runaway inflation and the stabilization of the economy and interest rates will be the catalysts of more robust investment activity.