Fund managers have cut their allocations to commercial real estate to their lowest level since the 2008 global financial crisis, in the latest sign that investors are becoming concerned about the impact of rising interest rates and falling demand on the sector.
Bank of America’s monthly fund manager survey showed that a net 19 per cent of managers globally were underweight the sector in May, the lowest level of exposure since December 2008,
In a sign of how quickly investors’ attitudes towards the sector have changed, investors’ allocations had hit their highest in at least 16 years in April last year, with a net 19 per cent of managers overweight the sector.
The survey adds to growing caution as steep rises in interest rates, falling prices and waning demand for office space following the coronavirus pandemic weigh on investor confidence.
Apollo Global Management’s co-president has been among executives to warn on the commercial property sector while last month Berkshire Hathaway vice-chair Charlie Munger pointed to a brewing storm in the US commercial property market, saying banks were “full” of “bad loans”.
Capital Economics has forecast the US commercial property sector will experience a 22 per cent peak-to-trough decline in value with offices suffering even worse as a result of falling rents and declining occupancy levels following the pandemic.
“The outlook for the US office sector looks particularly bleak,” said Kiran Raichura, deputy chief property economist at Capital Economics.
The shift towards more remote and hybrid work since the start of the pandemic will lead to significant valuation declines for offices in San Francisco, Seattle, Los Angeles, Chicago, New York and Washington, according to Capital.
Concerns about the outlook for the US economy have pushed US banks to tighten their lending standards for all categories of commercial real estate loans, according to the latest senior loan officer survey published by the Federal Reserve in May.
“The extent to which these more restrictive lending practices impede existing borrowers from refinancing [CRE loans] remains to be seen,” said Alan Todd, head of commercial mortgage-backed securities strategy at Bank of America.
Investors are also concerned that the problems in the commercial real estate sector could escalate into a wider systemic threat to the stability of financial markets.
Just under half of the fund managers surveyed by BofA cited commercial real estate as the most likely cause of a systemic event, compared with just 8 per cent that viewed a downgrade on US sovereign debt owing to the impasse in Washington over the government’s borrowing limit as the main risk.