MSCI has reported on what it described as the complex reality of the commercial real estate markets in the US, and noted that the gravest concerns are confined to the office sector.
In the debt edition of its US Capital Trends report, the MSCI complained that there have been “off the cuff” statements to the effect that the commercial real estate markets are in freefall. But that is not the case.
Some sectors do face what the report called illiquidity in the debt portion of the capital stack. In other sectors, though, there is nothing more apocalyptic than… more expensive debt.
MSCI noted that the loan originations it tracked rose 31 percent in the second quarter of 2023. This is not merely the normal springtime increase. In the 2013-2022 period, the average increase from first to second quarter was 17 percent, far below the 2023 increase.
Fear of illiquidity is not justified either in regard to commercial mortgages or to apartments. Where the pessimists have a point is in the office sector, where loan originations were 52 percent lower in the second quarter of 2023 than the pre-pandemic second quarter average.
The office sector was formerly a significant component of the portfolio of a typical institutional investor. It was one more than 40 percent of the capital value of the funds in the MSCI/PREA US ACOE Quarterly Property Fund Index. By mid-2023, that percentage had fallen to 23 percent. This makes it less prominent than the industrial sector (37 percent).
In short, the complexity usually missed by pessimists is that the office sector faces unique circumstances, and debt does remain available for most sectors.
The distinction between the problems of the office sector and those of commercial real estate more broadly is important. Historically, the availability of commercial real estate loans matters for the economy’s macro performance. The savings and loan crisis of the early 1990s came about because debt market dysfunctions drove down asset prices, which in turn led to retreats by lenders, in a vicious cycle. Likewise, the global financial crisis of 2008 followed a “subprime lending” crisis in the prior year and a downward spiral.
MSCI suggests that the same pattern may have been the case during the onset of the Great Depression. There was no hard data on commercial real estate debt in the US in the late 1920s and early 1930s, but “anecdotes suggest a similar pullback of lending at that time”.
It is fortunate, then, that the dysfunctions of 2013, though real, are not those of the commercial real estate space as a whole but those of the office market in the days of long covid and Zoom meetings.