Fortunes Entwined

Commercial real estate market hinges on the return-to-office push

By the end of 2024, 90% of companies that have office space plan to require employees to be in the office at least some of the time. That according to a Resume Builder survey of 1,000 higher-ups at organizations across the U.S. And most companies that gave up their office space in the wake of Covid-related closures have plans to acquire some. While the Bureau of Labor Statistics reports generally good worker productivity in the era of hybrid and remote work, executives whose companies have returned to the office insist that revenue and employee engagement rose in conjunction with the change. A few companies — such as Roblox, which will require employees in the office at least Tuesday through Thursday next year — say they’ll let go of remote workers who don’t abide by return to office policies. Still, most aren’t going back full-time.

“I think the concept of spending five days a week in the office is dead,” Brian Elliott, founder of the research consortium Future Forum, told CNBC.

As things stand now, though, there’s a lot of empty office space out there. More than a third of the Resume Builder survey respondents said their companies don’t currently have a physical office. Keycard swipes into offices are at half the level they were in 2019, either because workers aren’t going in at all or they’re going in a lot less frequently. Between now and when those return-to-office policies go into effect, what will happen to the commercial real estate market?

Cloudy Forecasts

Prognostications on the state of commercial real estate from big banks and investment firms run the gamut from a “severe collapse” to “not in a crisis.” What is certain is that commercial property values are down significantly from pre-pandemic levels and that a lot of loans worth a lot of money are set to reach maturity in the next couple of years. About $1 trillion in commercial mortgage loans will mature by the end of 2024, Goldman Sachs report, and another half-trillion dollars will be added to that by the end of 2025. Borrowers who owe on those will likely be looking to refinance if they can’t pay their loans off in time. They’ll do so at higher interest rates than were on the original loans. Even if the Federal Reserve doesn’t raise rates in 2024, it might not cut them either. Any delinquencies or defaults on those loans will send commercial property values down even further.

“More than 50% of the $2.9 trillion in commercial mortgages will need to be renegotiated in the next 24 months when new lending rates are likely to be up by 350 to 450 basis points,” Lisa Shalett, chief investment officer for Morgan Stanley Wealth Management, wrote. Morgan Stanley’s analysts “forecast a peak-to-trough CRE price decline of as much as 40%, worse than in the Great Financial Crisis.”

While that all sounds ominous, office space makes up a slim percentage of the overall commercial real estate market. Goldman analysts say multifamily and industrial commercial property has been resilient, and Bank of America says that while interest rates and remote work present challenges, “for several reasons, they are manageable and do not represent a systemic risk to the U.S. economy,” Bank of America analysts wrote.

Borrowers can work out modifications and extensions to avoid default, they say, and the loans they took out are much less risky than those of the Great Financial Crisis era.

“We believe the sector is not in a crisis, as successful dealmakers will find opportunities, with green shoots evident across all subsectors, including the much-maligned office subsector,” PwC analysts wrote.

Room to Maneuver

In a Bloomberg Market Live Pulse survey, 44% of respondents expected the commercial real estate market to bottom out in the second half of 2024, with 29% predicting it would take until 2025 or later.

Among those hoping the bottom comes sooner rather than later are big city governments. The Tax Policy Center says offices in the U.S.’s largest cities are somewhere between 40 and 60% full, costing those cities a great deal of property tax revenue. Washington, D.C., and San Francisco, for example, could miss out on around $500 million each in revenue over the next few years. New York City office buildings could lose more than 40% of their value, about $50 billion worth, according to one study.

On the flip side of that coin, those executives who plan to reacquire or rent out new office space in 2024 could take advantage of low rents or purchase prices this way. And while Goldman sees substantial “potential for disruptions to U.S. commercial real estate activity from a pullback in small bank credit availability,” that pullback from regional lenders could open the door for commercial real estate debt investors, who could see returns of 11% in the next three to five years, according to Bernstein Private Wealth Management chief investment officer Alex Chaloff.

Buying real estate debt “allows you to get exposure to real estate but to do so with much more of a safety component than just simply buying the equity,” he told Barron’s.

In other words, there will be plenty of opportunities for those dealmakers PwC analysts referenced to find. As interest rates and economic policy improve, they predict, leasing activity and deal flow will too.

As the wide range of predictions suggests, nobody knows for sure what will happen with commercial real estate and the return-to-office push.

“The end of 2024 is still a long way away, and the job market is constantly changing,” Resume Builder chief career advisor Stacie Haller said. “It remains to be seen if businesses will follow through on their RTO plans, especially when taking into account the recent backlash against major employers who have forced employees back to office.”