US commercial real estate: a relatively safe harbor from COVID-19

by Kasi Johnston11 Mar 2020

Stock markets are seesawing wildly in the US as fallout from the coronavirus continues. COVID-19, which has just been labelled by the World Health Organization as a pandemic, has infected thousands of people in more than 100 countries. In the US alone, there have been more than 1,000 confirmed cases. Wall Street hasn’t seen this level of tumult in over a decade, and many observers are predicting a 100% chance of another Fed rate cut at its scheduled meeting next week.

The plunge in rates has led to a great deal of uncertainty in the commercial real estate market, as both borrowers and lenders try to understand the impacts. Despite these great levels of insecurity, Jamie Woodwell, vice president of research and economics at the Mortgage Bankers Association (MBA), said the impact of the virus on the commercial real estate market is a few steps removed.

“For borrowers, last week's drop in Treasury yields raised the hope of saving on debt service,” Woodwell wrote in a recent blog post. “Lenders and originators report that many borrowers took the opportunity to reach out about refinancing or converting debt from floating to fixed-rate, and that acquisition deals seemed far easier to ‘pencil out’ with the lower rates.” 

This was evident on the residential side of the mortgage industry. MBA’s latest weekly residential mortgage application survey covering the week ending March 6 showed that applications were up over 55% compared to the week before. Refinance applications jumped to 79%, the largest weekly increase since November 2008. MBA has doubled its 2020 refinance origination forecast to $1.2 trillion, a 37% increase from last year, and the strongest refinance volume since 2012.

“As lenders handle the wave in applications and manage capacity, mortgage rates will likely stabilize but remain low for now. This in turn will support borrowers looking to refinance or purchase a home this spring,” said Joel Kan, MBA’s associate vice president of economic and industry forecasting.

For lenders specifically, there’s a lot of uncertainty. While equity and bond prices are updated continuously, market prices for commercial mortgages can take longer to settle, said Woodwell. Since funding for commercial mortgage-backed securities (CMBS) and the government-sponsored enterprises (GSEs) are directly tied to public capital markets, they adjust almost instantaneously to rate changes.

The greatest impact of COVID-19 on US commercial markets involves the lodging sector, which has been immediately and directly affected. There were no deals in the Manhattan hotel market this January, making it the third month of no transactions for the largest US hotel market.

Given that China is the largest outbound travel market in the world, Woodwell said the outbreak has already begun to act as a drag on hotel markets since hundreds of thousands of flights to, from and within China have been canceled. Corporate travel this year could be down as much as $560 billion due to coronavirus, according to the Global Business Travel Association.

Jake Clopton, president of the Chicago-headquartered commercial real estate firm Clopton Capital, believes the impact of the coronavirus may be much deeper and widely felt than the impact of SARS back in 2003.

“During that time, Chinese travel dropped by over 30% in dollar value, amounting to about $2.3 billion,” he said. “Today, travelers from China bring in over $34 billion to the US economy and travel restrictions are much stricter as cross border travel has almost ground to a halt.”

Retail properties have been shaky for the past few years due to excess space and the rise of e-commerce, and while coronavirus doesn’t have as direct of an impact, it’s something to consider still. Office properties are more immune and multifamily will remain mostly untouched, according to Woodwell.

From a bird’s-eye view, Woodwell believes US commercial real estate markets are, in most cases, a relatively safe harbor in the uncertainty of global and domestic markets. Considering long-term leases and secured collateral, COVID-19 may not have as large impact on commercial investments.

 “The bad news is that the spread of the virus domestically, our public and private response to it and how those affect the markets are sources of great uncertainty,” he opined. “The good news is that commercial real estate markets are coming to this period in a position of considerable strength.”