Over the last few years, the hospitality industry has taken some hard hits. And for Commercial Real Estate (CRE) professionals focusing on the sector, 2020 may well have felt like a trial by fire. When we looked at the industry last year, however, things were starting to look up, with at least some evidence of a mounting recovery.
The good news in 2022 is that, as business travel and tourism resume, the hospitality sector seems set to hit highs we haven’t seen since before the pandemic.
RevPAR revving up
According to a recent article by hospitality analysts STR, the RevPAR (Revenue Per Available Room) for U.S. hotels is set to surpass levels seen in 2019. RevPAR is an important metric for the industry and is used by owners to calculate hotel performance. The new predictions suggest a $6 increase in RevPAR compared to 2019.
It’s worth noting though that the gains fall short when adjusted for inflation, and it’s likely the industry will only achieve full recovery in 2024. That said, the sentiment in the hospitality sector still seems to be bullish, especially on the back of average daily occupancy rates of nearly 60% in May this year.
Back in Business
One factor that seems to be fueling the gains is an uptick in business travel. STR president Amanda Hite states: “…right now, we are forecasting demand to reach historic levels in 2023 as business travel recovery has ramped up and joined the incredible demand from the leisure sector.”
The New York Times adds that domestic business travel in particular is on the increase, with cities like Las Vegas leading the pack in terms of the number of trade shows and events scheduled in 2022.
While the recovery for international travel seems to be slower, they note that business trips to Europe are leading recuperation on that front.
The European connection
The hospitality situation in Europe is certainly heating up, with many top destinations reporting strong gains in the last few months.
Taken together, these latest reports suggest that there may be some welcome relief for the hospitality sector as travel, both for business and pleasure, resumes. Going into 2023 and 2024, we may see a level of robust recovery that means the industry can finally put the hard times of the last few years behind it.
SOCIAL: For those working in hospitality real estate, how are the numbers stacking up in your area?And how do you anticipate the trend developing through the rest of 2022?
A new report out from JP Morgan Chase provides an interesting mid-year review for commercial real estate (CRE), showing positivity in the first half of 2022, despite the various headwinds the industry faces.
“Despite rising interest rates—with the potential for more hikes in the coming months—commercial real estate has seen success in 2022,” writes Al Brooks, Head of Commercial Real Estate, Commercial Banking at JPMorgan Chase.
Giving retail a boost Even the beleaguered retail space has some standouts, according to JPMorgan. The report highlights a handful of factors that have bolstered strip malls in highly populated residential areas, underpinned by the likes of “grocery stores, fast-casual restaurants, and other retailers offering in-person services”, reads MPAMag’s coverage of the findings.
“JPMorgan observed that walk-in MRIs, testing clinics, and other non-traditional tenants may fill more shopping centers as retail evolves and adapts,” they add.
Class B and C malls, however, “continue to struggle” and the report authors call them “prime candidates for adaptive reuse” – into affordable housing and even industrial use, like fulfillment centers.
Industrial still booming Given the huge demand for industrial space – a trend that continues unabated – the report posits that we may start to see this category of property maturing in interesting ways. This could include adding the kinds of facilities and amenities which we associate with offices, such as gyms, complimentary snacks, nursing rooms, and so on.
This would fit with the evolution towards “multiple business purposes” within industrial sites, “such as a shipment center with offices or a showroom”, according to the report authors.
Casting forward As for the next six months, the report has a tone of tentative positivity, writing: “Multifamily and industrial properties have thrived in 2022. With healthy balance sheets, consumer demand could bolster retail, multifamily and industrial asset classes.”
But, they say, they’re keeping an eye on how “the country navigates hybrid work” and “on interest rate hikes, supply chain issues and geopolitical events, as well as ongoing relationships between public and private entities in affordable housing”.
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Social: What was the state of CRE in the first six months of 2022 in your region?
According to a recent report by Moody’s Analytics, the rest of 2022 might be the start of an economic rough patch as increasing risk factors boost market volatility. Moody’s states that economic risks and tightening monetary policy could translate into higher cap rates all the way into 2023.
Cap rate forecasts
The report also points out, however, that all is not equal in commercial real estate (CRE) markets, with sectors like hospitality, office and retail already showing signs of an increase in cap rates in response to rising interest rates. Multifamily and industrial cap rates have meanwhile remained steady in the face of uncertainty.
Worth noting is that the existing low cap rates seen in multifamily mean that an overall rise in cap rates will likely cause an increase for the sector. Put another way: “…sectors that have been transacting at very low cap rates have little place to go but up.”
Is a bump up inevitable?
Earlier this year, the National Association of Realtors (NAR) predicted only a modest rise in cap rates in 2022, counterbalanced by upward pressure in CRE prices. NAR notes that sales price growth has been on the up, especially for the industrial and multifamily sectors.
Moody’s Head of CRE Economic Analysis, Kevin Fagan, adds:
“There are strong opinions in the market both ways, that cap rates will go up significantly with rising rates, and others saying that cap rates will go down, and demand and expectations of rent growth will compress risk premiums.”
In a May 2022 interview with Wealth Management, Fagan added that the biggest headwinds currently facing US CRE are a combination of inflation, lower consumer expenditure and the risk of a recession.
Moody’s adds that, given the current economic climate, the chances of 2022 being a recession year have risen to 33%, while 2023 faces an “uncomfortable 50% probability” of a recession setting in.
Taking the long view
Though these predictions certainly add some uncertainty in the coming year, worth bearing in mind is that the outcome of the current volatility is far from set in stone. The way these factors play out in the CRE market remains to be seen.
For now, Moody’s takeaway prediction is that we should “expect to see more volatility in transaction and capital markets before we record pronounced effects on rents and vacancies.”
SOCIAL: Have you seen any movement in cap rates in your area? And what sectors do you think will be most affected?
Growing up in a small town in western Pennsylvania meant that I wasn’t necessarily on the cutting edge of technology. Any new electronics took months if not years to trickle down and even then would usually mean a trip to bigger cities such as Youngstown or Pittsburgh to track down. A great example is the LED watch. It was initially developed in 1971 and became widely available by the mid-1970s. But it wasn’t until Darrell Knight showed up sporting one on his wrist right after Christmas break of 1978 that I actually saw one, live and in person.
The use of technology in real estate seems to follow a similar path, with innovations taking months, if not years, to be integrated into the industry. This month, we are going to discuss some ways, specifically in the area of smart buildings, that technology has finally begun to make a big impact.
While certain sectors, such as medical and clean manufacturing, have been driving advances in clean air filtration and monitoring, the advent of COVID- 19 has placed a spotlight on this topic. The result is a whole ecosystem of products and strategies known as IAQ, or indoor air quality. The most common IAQ technologies revolve around higher-efficiency filters. Humidification and dehumidification systems have also become much more advanced, helping to control dust and mold while maintaining comfort. More advanced systems assist with heat and energy recovery ventilators to offset the increasingly “air- tight” nature of modern construction, as well as UV purifiers to neutralize airborne bacteria and viruses.
Voice-and touch-activated tech
Again, this type of technology received a huge boost in the wake of COVID-19. If you have ever used systems such as Alexa, Siri or Google, you are already well aware of the power and convenience voice-activation can offer. And while touch-activated technologies have been around for decades, the overwhelming popularity of smartphones and apps are leading to more advanced applications. In the commercial real estate sector, it’s no surprise that the hotel sector has taken the lead implementing this type of technology, ranging from speaking to control lights, temperature and entertainment to accessing the room and ordering room service from your smartphone. And don’t look now but many larger commercial property owners are beginning to integrate these same technologies, offering them to their tenants as a standard building amenity.
This may seem like something reserved for only big cities such as New York, Chicago and Los Angeles.
In the commercial real estate sector, it’s no surprise that the hotel sector has taken the lead implementing [voice activation] technology, ranging from speaking to control lights, temperature and entertainment to accessing the room and ordering room service from your smartphone.
And these cities certainly began adopting technologies years ago, with the advent of apps such as SpotHero and ParkWhiz, which allow parking operators to maxi- mize their occupancy through digital notification, reservation and even sub- leasing processes. But if you’ve ever parked in the decks at Hopkins airport, you’ve probably seen another, even sim- pler example that uses a small green or red light above each space, allowing potential parkers to quickly differentiate vacant spots from occupied spots
Energy efficient systems
This can fall into two categories:
1) systems that optimize energy via continual monitoring and 2) clean or renewable energy features. The former is the real heavyweight when it comes to smart building design and is mainly based on the autonomic cycle of data analysis tasks (ACODAT) concept. Basically, the HVAC systems have a central processor that continually monitors usage, time of day, outside air temperature, building occupancy and a host of other factors to not only be reactive in running the HVAC system at peak efficiency but also be predictive by learning patterns over days, weeks and months. The latter includes a host of advances in technologies such as heat pumps and geothermal systems as well as solar- and wind-enabled sources.
The most common acknowledgement of building technology is a certification known as Leadership in Energy and Environmental Design (LEED), through the U.S. Green Building Council. A similar certification is known as the Building Research Establishment Environmental Assessment Methodology (BREEAM) rating. Both of these involve achieving points related to set standards that address carbon, energy, water, waste, transportation, materials, health and indoor environmental quality. There are many examples of LEED-certified buildings in Northeast Ohio, including the Maltz Performing Arts Center at Case Western Reserve University, UH Avon Health Center and the Children’s Museum of Cleveland, among hundreds of others.
And there have been many noteworthy projects worldwide, including the following high-achieving facilities.
Developed by Siemens, the build- ing contains a variety of dynamic and artificial intelligence to power its operation. A noteworthy feature is an advanced air volume system that can put the entire building into “green mode,” which is a setting that uses aggregated historical data to optimize humidity, air pressure and temperature. It also has a decontamination mode that raises the temperature to acceler- ate the decay of airborne virus particles.
This was the first building in Toronto to be rated as a LEED Core and Shell Platinum building. It links up Cisco’s business operations and helps to power Cisco’s Internet of Everything (IoE) while also streamlining all building data into a single network.
Arguably the most striking example of the IoE in smart buildings, the Mitie building uses automated alarms, remote systems management, machine learn- ing and data analytics to achieve a 95% accuracy rate for predictive main- tenance calls and a 3% improvement of energy usage by clients.
By the time we hit high school, Darrell Knight’s simple, push-button, red-hued LED watch had been eclipsed by a series of LCD watches that integrated features like alarms (with music, no less), stop watches and the ability to track multiple time zones. And while today’s smart buildings have shown great advances over the last two decades, the pace of technology promises to have an even greater impact on this sector.
There’s no getting around it – the last couple of years have not been kind to the office sector. The way we work and use office space is also changing, leading to what many consider a fundamental shift in how business, and office real estate, operates. While some consider these developments a chance to reevaluate what adds value in office, for others 23the signal is far more bearish.
Recently, Bisnow reported on a study that falls into the second camp, stating that office values are set to drop by $500 billion by 2029. Reasons given for this dramatic downturn included work-from-home and the resulting change in office risk premiums.
Breaking down the office downturn
The study in question, titled: “Work From Home and the Office Real Estate Apocalypse” suggests that 2020’s losses are just the beginning and that the sector should buckle up for a rough few years ahead.
The authors, focusing on data from the New York market, say that office should prepare for a 28% decline in value in the long run. Drivers of the decline include changes in lease revenues, office occupancy, lease renewal rates, and rents. They add that the impacts are much heavier for ‘low quality’ office buildings, and we can expect the ongoing ‘flight to quality’ to buffer the effects for high-end properties.
Another angle on office
It’s a pretty dire set of predictions for the sector, but, as is often the case, there’s some strong disagreement from other analysts. In a recent report, Moody’s Analytics painted a somewhat different picture, stating: “A two-year onslaught of gloomy, sometimes hyperbolic headlines about the future of office and cities could give casual observers the impression that urban areas are on a course to become post-apocalyptic ghost towns… However, doomsday headlines are at odds with empirical office performance.”
Moody’s went on to highlight that many office markets rebounded strongly in 2021, and that office loan delinquencies are still low, despite economic uncertainty.
Interestingly, the Moody’s analysis also points out that the New York market was one of the hardest hit in terms of rent growth, but that rent and occupancy decline is still less than what’s been seen in past cycles. They add that, overall, the evidence for a sustained decline in office occupancy or value is lacking, and that tenants are still signing and honoring lease agreements.
Moody’s takeaway from all of this? In the words of the report: “The office apocalypse is clearly on hold.”
A balanced view
As the above viewpoints show, the future of the office sector is a topic that currently generates a lot of strong opinions. How things play out in the long-term, however, remains to be seen. For our part, we’ll keep a practiced eye on the sector as prospects, and opportunities, continue to unfold.
SOCIAL: What have your own observations been of market trends in the office space this year? And what’s your go-to source when dealing with conflicting market information?