Commercial Observer Finance Editor Cathy Cunningham sits down with Yahoo Finance’s Diane King Hall to discuss the impact of the Covid-19 pandemic on the real estate industry, commercial real estate trends, and what lies ahead for investors.
Video Transcripts
DAVE BRIGS: The commercial real estate industry is grappling with work from home challenges, higher interest rates, and the consumer slowdown. All were hot topics at the Commercial Observer Spring Financing CRE Forum today. Our very own Diane King Hall was there. Diane, sounds like an awful lot to talk about.
DIANE KING HALL: indeed.
DAVE BRIGS: Not a lot they want to talk about.
DIANE KING HALL: I know.
DAVE BRIGS: Not real favorable environment.
DIANE KING HALL: Right. How do you solve a problem like the woes of the commercial real estate industry? The real estate industry in general, but again, this session focusing on commercial real estate difficulties stemming going all the way back to the pandemic now to a difficult interest rate climate.
We talked to Cathy Cunningham, who took us through a bird’s eye view of the challenges the industry is facing and what’s ahead. This is Cathy Cunningham. Let’s take a listen.
CATHY CUNNINGHAM: I think the last year has been a very volatile year. We’ve seen a lot of capital sources retrench. So we’ve seen the banks retrench. We’ve seen the CMBS Commercial Mortgage Backed Securities market really not be as efficient as it normally is. The CLO market, Collateralized Loan Bonds are also not efficient.
So what it’s done is really whistle down the available financing pool to a very select group of lenders. Now, the flip side to that is that these lenders now really have– they can cherry pick the best deals for them. So competition is very scarce, which also works for them. So there’s an opportunity in the clouds, you could say.
DIANE KING HALL: So how would you characterize the deal landscape now?
CATHY CUNNINGHAM: It really is an asset type specific. I would say I think multi-family and industrial, which are really the most coveted asset classes during COVID, continue to be the asset classes that investors are flocking to. On the other side of that, an office, especially a class B office, is an asset type that nobody really wants to finance today. So a lot of concerns about the maturing office loans are coming due soon.
DIANE KING HALL: And so class B, I have heard that class B buildings are struggling more now, class B, class C. But in particular for class B since you see more and more companies calling people back to the office, can that help or is it still just the troubles are too much right now for that sector?
CATHY CUNNINGHAM: I mean, I think it can definitely help but I think the troubles in that sector are so pronounced now because of COVID. What COVID did was really kind of change the dynamic power too. Almost where the tenants are now the people with the power and they can demand what they want from a property. So really only the best, flashiest, greenest, most attractive buildings are securing tenants.
So it’s really been a flight to quality within the office that we’ve seen now for a few years. And this feels almost like the boiling point for office where the worst, or not the worst, or the least attractive office buildings are applying for them– they have struggled for a few years and now they can’t get financing. So it’s not a good situation.
DIANE KING HALL: Commercial real estate was deeply affected by the pandemic as many other industries and it’s a struggle to recover. Do you see it– has it completely changed how commercial real estate operates or do you think there will be a move back to how it was pre-pandemic?
CATHY CUNNINGHAM: I think it’s probably a change that we’re going to see last for a long time. I think what COVID did in terms of the real estate market is really giving real estate a chance to breathe and really kind of figures out everybody’s portfolios, what they look like, what tenant demands look like. And that flight to quality is really the theme.
So when it comes to office especially, flight to quality. When it comes to the asset classes they’re performing well I think people are far more diversified post-COVID in terms of not having their portfolio completely weighted toward the office. And I’ve been seeing a lot of office owners now pivoting away slightly from office to multi-family, industrial, even retail just to basically diversify their holdings more. So I do think that the pandemic was a fundamental change for our industry in terms of just changing the landscape of what commercial real estate looks like and is used for.
DIANE KING HALL: And speaking of multi-family, what are you seeing with regard to plans for conversion especially with– we did an interview with Bill Rudin, and he talked about how in years past you saw conversions happen downtown Manhattan. Do you think more of the industry is moving or will have to move towards that?
CATHY CUNNINGHAM: I think a lot of them certainly want to. I think if you’re an owner of an office building that is not performing or is functionally obsolete, which is a phrase we hear all the time just now, I think that’s definitely the hope that you might be able to convert that building into a multi-family building.
And also it helps solve the housing shortage in New York City. But not every building is ripe for a conversion. It really depends on the floor plans, the glass. It depends on so many different things whether or not that building can be converted. So I think quite a lot of owners would love to do that. It’s not necessarily going to be an easy fix for a lot of them.
DIANE KING HALL: Let’s talk about just the headwinds in general. The interest rate climate has been challenging for commercial real estate. The banking sector problems and that have its impact on the sector. How are individuals and– or individuals, institutions, in the real estate, in commercial real estate preparing for and the headwinds that we have currently in front of us and a little bit down the pike?
CATHY CUNNINGHAM: Well, I think now, I think the banking crisis what it did was really kind of a wake a lot of people up, because we’ve been in a period of volatility for about 10 months in a rising rate environment. But I think a lot of people were kind of kicking the can down the road when it came to refinances and what their loan portfolio would look like in terms of maturing loans. I think now that’s being dealt with more forthrightly because there’s no choice.
I do think there’s going to be pain over the next year or two as, first of all, the distress is currently in the market playing out. And also I think there’s going to be volatility in the system. Even after rates stabilize, there’s going to be a lot of volatility in commercial real estate. It’s going to take the banks a longer time to come back and actively lend again. So I think until we have a functioning market on the banking side and less volatility, it’s going to be a very tough market for a lot of the owners of commercial real estate.
DIANE KING HALL: So indeed certainly some challenges within the commercial real estate sector, Dave. And one of the common themes that we heard throughout our interviews with Bill Rudin the CEO of Rudin Management, and Rob Brown, Laura Rapaport, they’re experts in the industry, was that the need for conversion. You have a housing crisis in the US, so there could be a way where the problems in the commercial real estate sector could be a solution in another capacity. But you really need public sector support for that, like tax credits, et cetera.
DAVE BRIGS: Yeah, because the values are dramatically different in terms of office versus multi-family, far more valuable for office. Plus, there’s the issue of plumbing, which is massive. The types of windows they use, the walls that are load bearing. It is– people think it’s simple–
DIANE KING HALL: It’s not.
DAVE BRIGS: It is a massive challenge.
DIANE KING HALL: You need some tax abatements to help with that.
DAVE BRIGS: No doubt. Diane, thanks. Great stuff.
DIANE KING HALL: All right. You got it.