It may feel like we're inuncharted waters with COVID-19, but Lee Menifee, PGIM Real Estate'sHead of Americas Investment Research, says there are things we canlearn from history.

|

"I absolutely do think there areclues from past downturns," Menifee says. "The thing that I'mlooking most carefully at [this time] is how real estate is priced,both in an absolute sense and versus other asset classes, in thisdownturn relative to previous downturns." 

|

In past downturns, real estatevalues have fallen for two reasons, according to Menifee. Onereason was that the underlying income in properties fell. The otherwas that investors attached a higher risk to certainproperties.

|

Previous economic cycles havealso shown that investors favor real estate, but they see asignificant distinction between the different types of real estate.That should play out again in this cycle.

|

Given what is happening withinterest rates and other asset classes, Menifee sees a possiblescenario where certain parts of the real estate market have limitedvalue declines. 

|

"The underlying incomes fall, andthe value of the assets should fall, but we're not sure that we'regoing to see a lot of cap rate compression," Menifee says. "We'renot sure that the risk premium line up. That's true in theresidential sectors and in the industrial sector."

|

But other sectors, such as officeand retail, are looking at larger income declines than otherproperty types. Given what is happening with tourism, hotels may bein a separate class right now. 

|

"It's hard for us to tell youwhat the risk premium in the hospitality looks like because thereis very little trading," Menifee says. "Even the debt on some ofthese properties isn't trading that much. So it's very difficult toestimate what that risk premium is, but I think what we'reobserving in the public markets indicates that the risk premium isvery high."

|

Ultimately, Menifee thinksdistress in many segments of commercial real estate plays outslowly. "I don't see a lot of pressure on sellers, either fromtheir balance sheets or the lenders, to force a sale," he says."There obviously will be a few sales, but I think that's going tobe slow to evolve. To the extent that you have cash flow, the lowerrate environment helps there."

|

Menifee expects the pricediscovery process in retail, hospitality and parts of the officesector to be very prolonged. "I wouldn't be surprised if, in threeor six months, we're still asking ourselves the question, 'What isthe average cap rate for those properties?'" Hesays. 

|

But the process will move quicklyfor other CRE segments. "I think we'll probably have a lot morevisibility for apartments and industrial sooner rather than later,"Menifee says.

Want to continue reading?
Become a Free ALM Digital Reader.

  • Unlimited access to GlobeSt and other free ALM publications
  • Access to 15 years of GlobeSt archives
  • Your choice of GlobeSt digital newsletters and over 70 others from popular sister publications
  • 1 free article* every 30 days across the ALM subscription network
  • Exclusive discounts on ALM events and publications
NOT FOR REPRINT

© 2024 ALM Global, LLC, All Rights Reserved. Request academic re-use from www.copyright.com. All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.

Leslie Shaver

Les Shaver has been covering commercial and residential real estate for almost 20 years. His work has appeared in Multifamily Executive, Builder, units, Arlington Magazine in addition to GlobeSt.com and Real Estate Forum.