Dive Overview:
Moody's said the work-from-home trend is likely to drive commercial real estate vacancy rates to a peak average of 24% in 2026, four percentage points higher than in the first quarter of this year. Rising vacancy rates could erode commercial real estate value by up to $250 billion by 2026, Moody's CRE economists Tom LaSalvia and Todd Metcalf said in response to questions via email on Friday. “Many industries do not appear to be seeing a significant impact on productivity” from working from home, they said, but acknowledged that research on the issue has produced mixed results. “Without a noticeable decline in productivity, companies may not have a strong incentive to return to a traditional office environment, given the cost savings that come with reduced office space.”
Dive Insights:
U.S. commercial real estate is likely to face greater disruption this year and next with about $1 trillion in debt coming due, hybrid working reducing demand for office space and interest rates remaining higher than expected, the Conference Board said last month.
According to the Conference Board, CRE debt maturities are at unusually high levels as office property prices have fallen more than 35% from their peak.
Moody's said in a March report that values of office commercial real estate could fall 26% by the end of next year as many companies downsize their workspaces or relocate to cheaper properties to adapt to the work-from-home trend.
Even among the most troubled areas, CRE losses vary widely, Moody's said in a recent report.
“Even in more hard-hit, expensive and established tech markets, there are successful locations and buildings,” LaSalvia and Metcalf said in a joint emailed response to questions. “The most dangerous approach is to move offices to [real estate] Roughly speaking.”
While overall default rates are expected to approach levels seen during the 2008-2009 financial crisis, the commercial real estate market is a “conflict between the haves and the have-nots,” they say, and assessing the market “requires careful monitoring of stakeholder portfolios.”
McKinsey said in a July 2023 report that global office occupancy is “stable” at 30% below pre-pandemic levels, and foot traffic near urban retail locations is down 10% to 20%.
McKinsey predicts that demand for office space in “intermediate cities” will fall 13% in 2030 compared to 2019. In a “severe scenario,” demand in the hardest-hit cities will fall 38%.
LaSalvia and Metcalf said some CRE markets in the U.S. are experiencing a decline in vitality.
“There are signs of a critical mass problem within the building and the neighborhood, with tenants looking for space that is attractive to employees who are not interested in living in hollowed-out buildings with no amenities or life nearby,” they said.
“The bright future for offices is in active mixed-use neighborhoods,” LaSalvia and Metcalf say, “and even Class B buildings can thrive in these environments.”
At the same time, “it cannot be ignored that many employees would prefer to work from home,” the report said, noting that the majority of workers would equate an order to return to the office with a pay cut.
Additionally, 28% of respondents to a Federal Reserve survey conducted in 2022-2023 said they would be likely to change jobs if asked to return to the office, Moody's economists said.
Over time, market forces will drive vacancy rates down: “As office values fall, conversions and demolitions will become more rational, which will put downward pressure on vacancy rates,” the researchers said.
In the short term, “many companies still plan to return to the office in 2024,” Moody's economists said. “This suggests that working from home is now on the rise.” [work from home] Full-time work or one or two days a week may also be short-lived.”