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Key calls for US commercial real estate in 2022

The US economy is set to slow this year as elevated inflation and higher interest rates squeeze spending. Nevertheless, at the all-property level, we expect rental growth of around 3% y/y and NOI yields to see another large fall, driving double-digit total returns. Industrial will again be at the top of the table, with returns reaching 20%, but the three other major sectors should all see returns of close to 10%. We also expect another year of outperformance for the cheaper Sunbelt markets.
Kiran Raichura Senior Property Economist
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The metro level data confirmed another strong quarter for commercial real estate in Q1, though with the usual wide range of performance across sectors and cities. For offices, rents in the larger coastal markets continued to trail for the most part, while life sciences in Boston and San Diego helped lift their performance to the top of the rankings. Sunbelt markets were the strongest for apartments, as the recent rental growth in major metros such as NYC cooled somewhat. And in the industrial sector, while most markets shone, LA and Riverside saw exceptional capital value growth. The party may soon be over, however, with risk-free interest rates rising and yields set to follow, pointing to much slower capital growth ahead across the board.

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Setting aside the drag from net exports on GDP growth, Q1 was another strong quarter for both the domestic economy and commercial real estate markets, highlighted by a record first quarter for investment volumes. But occupier demand is slowing in all four sectors (albeit from record highs in industrial) and the sharp hike in alternative asset yields is already squeezing property valuations. As a result, we think that investment totals should slow in H2 and commercial real estate yields, particularly in the apartment sector, will begin to rise.

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Major Office Markets Outlook (Q4 2021)

Our stronger national office forecast this quarter mean upgrades to all six major markets. The largest of those uplifts is in Boston, which has seen a sharp rise up the rankings and where we expect total returns to hit double-digits in 2021 and 2022 before slowing to around 6% in 2023. With average annual capital growth of 1.5% over the five-year forecast, L.A. will not be far behind, while Chicago and Washington D.C. are forecast to occupy the middle slots. A notable upgrade to San Francisco means that its performance is now forecast to be similar to those two markets, leaving New York City trailing behind with total returns of around 4.5% p.a. across the forecast period. While the other five major markets are now forecast to outperform the national average with the addition of 2026 to our forecast period, NYC is forecast to underperform with its capital values still 5%-6% below their end-2019 levels by the end of 2026.

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US Commercial Property Update

US to outperform in 2022 before rate rises curb returns

The rapid bounce-back in the US economy along with still-loose monetary policy will drive continued strong performance in real estate in 2022, when we expect returns to exceed 12%. That would see the US outperform the UK and euro-zone by 5%-pts and 3%-pts respectively. We then expect returns to fall back to around 5% in 2023, roughly matching the other two markets. But with interest rate rises likely to impact US valuations sooner, we forecast the US to underperform by 1.5%-2%-pts p.a. in 2024-26. In view of the wider interest, we are also sending this US Commercial Property Update to clients of our European and UK Commercial Property Services. Note: Central Bank Drop-In – The Fed, ECB and BoE are just some of the key central bank decisions expected in this packed week of meetings. Neil Shearing and a special panel of our chief economists will sift through the outcomes on Thursday, 16th December at 11:00 ET/16:00 GMT and discuss the monetary policy outlook for 2022.

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US Commercial Property Outlook

All-property returns set for double digits in 2022

The major change to our forecasts this quarter is that we now see strong demand for assets persisting well into 2022 and pushing yields down further. That is true in all sectors, with retail and offices joining the party, but with industrial still well out in front. That will drive all-property total returns of over 12%, following nearly 15% in 2021. Those upgrades partially reflect improved occupier market outlooks too, particularly in the industrial and office sectors, where rental growth expectations have been revised higher throughout the forecast. But the best and worst performers over the next five years are set to be retail and apartments respectively, with the former producing returns of 6-6.5% p.a. in the 2022-26 period and the latter closer to 3.5%-4% over the same period.

10 December 2021
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