Tag Archives: Recession

Why the Next Recession Won’t be as Hard on the Real Estate Market

Why the Next Recession Wont be as Hard on the Real Estate Market ft

The Great Recession of 2008 has its name for a reason. It has been measured to be the largest economic disaster in American history since the Great Depression of the 1920’s-30’s. The recession was so large that a ripple effect caused a global recession just a year later. While no industry was unaffected, the real estate market took a particularly hard hit. In fact, a collapse in the housing market and other real estate markets in 2007 was one of the falling dominos that led to the inevitable recession just a year later.

 

Despite all of this (or perhaps because of it), there is reason to believe that our next recession will not take nearly as significant a toll on the commercial real estate market. This is partially due to the fact that the next recession will likely not be as damaging to the overall economy. It is also thanks to administrative efforts to protect the real estate market from present and future turmoil. With this in mind, here is why the next recession likely won’t be as hard on the real estate market.

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Why the 2008 Great Recession Crushed the Real Estate Market

There can be no question that any recession would be expected to have a negative impact on the real estate market. The 2008 great recession was particularly damaging to house costs, commercial real estate, and rental vacancy numbers specifically because it was partially caused by a looming housing crisis. After all, when 8.7 million jobs are lost and house prices drop by approximately 28 percent across the country, the value of real estate is going to take a hard hit. 

 

While the housing crisis gets all the press, commercial real estate was heavily impacted by the 2008 Great Recession. It is important to understand that many of the same issues which plagued residential real estate such as lax policies from the Federal Reserve including offering so called “exotic mortgages” did touch the commercial real estate market, but not to the same degree. 

 

The primary cause of the commercial real estate crash in 2008 was an overall recession. Less money for businesses led to lessened spending. Lessened spending led to fewer employees. Fewer employees led to fewer jobs. Fewer jobs led to less need for commercial real estate and/or developing commercial real estate projects. And the list goes on. Still, CRE is heavily tied into federal policy which has been adjusted to be more conservative in the years since 2008. More on this below.

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Inevitability of the Next American Recession

It is only natural that the US will soon experience its next recession. There is no economy on earth which is immune to bull and bear markets — such is the way of any large economy. Unfortunately, many economic metrics are pointing towards the next recession coming sooner than later. Here are a few reasons why:

 

New York Federal Reserve recession probability model: The New York Federal Reserve is one of the most well respected authorities on predicting recessions. Their model has accurately predicted past recessions both in real time and retroactively. The accuracy and detail of this model shows that we are more likely to see a recession in 2020 than any year since 2009.

 

Inverted yield curve: You may have heard or read something about the inverted yield curve popping up for the first time since the great recession in 2019. Essentially, when short term yields are outperforming long term yields, that is a major red flag of a coming recession.

 

Unduly inflated economic numbers: The US is currently enjoying low unemployment rates. This is generally great news for CRE investors hoping that a recession is far away. Unfortunately, unemployment is not such a simple statistic. Underemployment numbers and part time employment numbers are on the rise. This is another staple of an upcoming recession.

 

The Next Recession Won’t be the Same as 2008 for Real Estate

Now that we have established that:

 

  1. A recession will be upon us at some time in the relatively near future and 
  2. The last recession was devastating for the real estate market

 

Why exactly should we expect the next recession to be any different? The simplest answer is that the federal government and banking institutions have (mostly) learned their lessons. The ridiculous lending practices of the early to mid 2000’s have either been eradicated or constricted. The supplemental answer is that the 2008 was one of the most significant economic events in the past 50 years. It is extremely unlikely that the next recession will be as impactful overall. Whether we are talking about the housing market or commercial real estate, a repeat of 2008 is likely very far off.

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Going Forward

The best laid plans of mice and men often go awry. Even with a looming recession, it is probably a good idea for commercial real estate veterans to go about their business as usual. The next recession will almost certainly not be the same cataclysmic event as the last one, and the real estate market is expected to remain much more stable this time around. Obviously, all recessions have an economic impact. History may not be repeating itself, but learning from our past mistakes is always wise.

How a Recession Would Impact Commercial Real Estate

How a Recession Would Impact Commercial Real Estate

When it comes to recessions, it is not a matter of if, but a matter of when. The average American tends to view recessions as massive periods of history such as The Great Depression. In reality, recessions are quite frequent with varying degrees of impact on the individual and on different industries. Based on historical precedence, the US is due for another recession in the coming years. What is more difficult to calculate is the severity and duration of the next recession. 

 

As real estate investors, recession can be viewed as both a scary proposition and also as an opportunity. Today, we will examine past recessions to better understand how investors can prepare for the impact of a future recession on commercial real estate.

 

The Inevitability of the Next US Recession

THE INEVITABILITY OF THE NEXT US RECESSION

While nothing is inevitable beyond death and taxes, a recession is pretty damn close. Beyond the conceptual inevitability of economic ebbs and flows, recent recession indicators have shown that the US is due in coming years. Examples include:

 

Inverted yield curve: In a healthy economy, a long term, 10-year yield is expected to outperform a short term, 3-month treasury rate. In 2019, the 10-year yield dipped below the 3-month yield for the first time in 12 years. The last time this occurred, the 2008 financial crisis was looming around the corner.

 

Unemployment rates belie the reality: One of the strongest pillars of the current US economy is historically low unemployment rates. This is a great sign of stability of the nation’s economy. However, a worrying trend is that 2019 saw huge cuts to employee hours. This is often the first step towards higher unemployment rates, as employers tend to cut hours first, before ultimately having to downsize.

 

New York Federal Reserve recession probability model: The New York Federal Reserve puts out one of the most comprehensive and respected predictive models when it comes to future recessions. According to this model, the likelihood of a recession has approached 40 percent for the first time since 2009. Previous predictions have been accurate with a nearly perfect track record.

 

2008 Great Recession’s Impact on Commercial Real Estate

2008 Great Recession’s Impact on Commercial Real Estate

The residential real estate market gets most of the attention when it comes to the Great Recession of 2008-2009, and for good reason. Foreclosures and purchasing habits took a massive hit during the following years. However, the commercial real estate industry was hit nearly as hard. In fact, the average price of office space has been slower to recover than average rental rates. While office prices in 2017 had recovered to 30 percent above their 2007 highs, rental rates were performing at 60 percent above their 2007 highs.

 

Another grim aspect of the 2008 financial crisis was the impact it had on vacancy rates within commercial real estate. 2010 saw peak vacancy rates at 17.4 percent for office space, 10.1 percent for industrial space, and 10.8 percent for retail space. It is important to note that the impact on CRE markets seems to have been a bit more delayed than within the residential market, potentially accounting for some of the slower recovery noted above.

 

From the years 2007 to 2009, total investments in real estate went from $460 billion to $70 billion. This is one straightforward trend which will likely translate for commercial investment in any coming recessions. The impact may not be so severe, but total investments will almost certainly slow when a future recession hits.

 

How CRE Investors Can Prepare for a Recession

Liquidate assets now to turn investments into cash

With all of this in mind, how exactly can commercial real estate investors prepare for this inevitability? While predicting the future is obviously a fool’s errand, there are two primary strategies that CRE investors can use to stay ahead of the curve.

 

Liquidate assets now to turn investments into cash

The signs of recession are certainly there. Some investors who have seen solid returns on their current CRE investments might want to take a turn-to-cash approach. This essentially takes your skin out of the game until the economy is back on the rise. The fringe benefit of turning current investments into cash is that savvy CRE investors can once again get back into the real estate market when property values hit their lowest points. 

 

Retain real estate assets and weather the storm

Recessions are scary, but as all things, they too will pass in time. Most long-term investors understand that half the battle is staying in the game. All of the figures we have quoted earlier show horrible downturns and also eventual recoveries. In fact, one of the “bad” statistics for CRE was a mere 30% increase in value over a 10 year period. 

 

Going Forward

Recessions are as American as apple pie. They are not to be feared, but they certainly call for some preparation and smart decision making. Commercial real estate is every bit as susceptible to an economy in recession as residential real estate or any other forms of investment. Smart investors will view coming economic downturns as just a part of the greater picture. Just as the CRE market recovered from 2008, so too will it recover from the next recession.