According to a new analysis from commercial real estate data provider Trepp, GlobeSt.com reports that favorable rates and terms for homeowners looking to fill vacant spaces may be a thing of the past, at least temporarily. The combination of falling rental rates and increasing “entry” capitalization rates accelerated the decline in property values. Meanwhile, capitalization rates have risen due to the high risks associated with an unstable asset.
“For some operators who acquired their assets between 2010 and 2011 and before covid 2020, they have always been able to fill their vacant spaces at prices and rental conditions that are increasingly favorable to the operator,” wrote Lonnie Hendry of Trepp in his analysis. “Those days are over, at least in the short term, and more than likely, in the medium and long term as well.
“The recent market disruption has resulted in an unprecedented availability of sublet space which immediately reduces market rental rates in these markets. Tenants whose existing leases are about to expire will not renew their current leases. They will charge the rental rate for the sublet, or even less in most cases.
More sublet space hit CRE’s office market this year – there were 147 million square feet of sub-space space in North America alone earlier this summer, GlobeSt.com reports. Office sublet space has grown 76% year over year and increased 99% since the start of the COVID-19 pandemic in the first quarter of 2020, according to Cushman & Wakefield.
When rental rates go down and “entry” capitalization rates go up, the value of the property goes down. The result is the operator’s equity, or the perception of fairness, evaporates and lenders are reluctant to refinance the property without additional reservations, according to Hendry.
“The market doesn’t want to pay a price that allows the seller to leave the property,” he wrote. “It’s difficult to refinance or sell a property when contract rents are significantly higher than market rents and your property is occupied by multiple tenants with staggered lease expiration dates. “
Hendry also noted that this reasoning explains why industrial leases to Amazon are the “coveted price” in today’s market, GlobeSt.com reports.
“They pay higher rents, sign long-term leases and provide significant hedge against downward pressure on rental rates,” he wrote.
Despite the sobering numbers, Hendry believes all is not lost for the industry, as long as people are looking at the right information.
“Let’s take a deep breath,” he wrote. “There is hope. Pilots don’t navigate the storm by flying blindly through the night sky. Instead, they trust their equipment and data instruments to lead the way. Commercial real estate practitioners should also trust data to help them guide their clients to smoother air.Having the right data allows you to create a flight plan that minimizes turbulence and maximizes experiences and results.
Joe Dyton can be contacted at [email protected]