Last year was a banner year for the commercial real estate (CRE) industry as sales hit a record level. The Wall Street Journal reports many investors gobbled up commercial properties in 2021 to protect themselves against inflation. Texas and the rest of the Sun Belt led the way in CRE acquisitions.
But with inflation rates reaching their highest levels in 40 years, some investors are beginning to question whether commercial properties remain a dependable and predictable hedge against higher prices, which continue to affect nearly every aspect of the economy.
CRE sales soared in 2021
Sales of commercial property did not just rebound from the COVID-impacted 2020 but exploded last year, totaling $809 billion, nearly double the year before. They also eclipsed the record set in 2019 of $600 billion. Real Capital Analytics data shows the top two CRE sectors in 2021 were:
- Apartment buildings: The $335.3 billion in sales constituted a 128% increase from 2020.
- Industrial real estate: While finishing a distant second, these properties totaled $166.1 billion for a 56% gain.
Dallas finished first with nearly $50 billion in sales in 2021, followed by Atlanta at $37 billion. By contrast, Manhattan – usually at or near the top of the list – finished ninth with nearly $19 billion in sales. Overall, real estate stocks gained over 43% in 2021.
How could inflation impact CRE acquisitions?
CRE is typically seen as a good bet for investors because commercial property often benefits from inflation-causing forces. Rising labor costs and glitches in the supply chain can limit development, which usually aids owners of existing properties.
Landlords can also adjust rental rates to stay ahead of inflation. But analysts say they are seeing a slowdown in real estate purchases in recent weeks as some concerns mount over long-term interest rates. Higher financing costs increase expenses for owners and erode property values.
Inflation is just one factor in rising interest rates. Investors are also keeping an eye on the Federal Reserve, which is ending its bond-buying program and starting a new phase of short-term interest rate increases.
Other unique considerations exist
Looking at other times of economic instability since the 1990s, analysts say real estate investment trusts (REIT) typically perform well as a hedge against inflation. However, they note that the pandemic has contributed to many new considerations. These include supply chain and worker shortages.
Some believe these factors, and others, raise the possibility that inflation may not decrease as quickly as in the past and that long-term interest rates will persist for some time to come. One option is that investors will turn to fixed-income investments, such as bonds if the 10-year Treasury rate reaches 3%.
Analysts note that investors continue to buy commercial properties despite a slowdown in CRE purchases from 2021. They say many still believe that long-term rates will not become prohibitive or that they will be able to raise rents to stay ahead of inflation.