Commercial real estate (CRE) is showing signs that the deterioration of industry transactions and fundamentals has started to plateau, and early stages of recovery may be imminent, according to Deloitte LLP.
According to Deloitte, the current market downturn, which was fueled more by overleveraging than overbuilding, is not following historic tendencies.
‘Uncertainty is the most significant issue for commercial real estate in the post-recession environment, as market participantsâ�¦look for a signal that economic and industry fundamentals have hit bottom and started a sustainable recovery,’ says Bob O'Brien, vice chairman and real estate sector leader for Deloitte. ‘While this signal remains elusive, positive developments like increased deal flow; improved real estate capital markets; stabilizing office, apartment, industrial and hotel fundamentals; and the [real estate investment trust] rebound offer hopeful signs of recovery.’
Among the biggest challenges facing CRE players next year is the impact of ‘amend and extend’ strategies, Deloitte says. Banks' increased willingness to extend the terms of loans that are unlikely to return full value on principal and interest accrued could help keep delinquencies and defaults remain in check until the economy recovers. It also puts a floor under the market, making it difficult to know when the bottom has been reached, Deloitte explains.
The high level of maturing debt over the next several years will also remain a significant barrier to recovery, the firm says. In addition to commercial mortgage-backed securities, loan delinquencies and CRE loan defaults, there is also an increase in strategic defaults as more CRE borrowers make a business decision to exit profit-draining investments in order to divert funds to performing projects or shareholders.
CRE fundamentals are moderating, but recovery may be slow, Deloitte cautions. There are early signs of improvement in fundamentals such as occupancy and rental rates in certain property types and geographies, and indications that declines in pricing, occupancy and rent growth in other property types and geographies are moderating in advance of a rebound. However, prospects for a majority of indicators reflect low and slow growth.