Fund managers cut their allocations to commercial real estate to the lowest level since the 2008 global financial crisis, the latest sign investors are worrying about the impact of rising interest rates and falling demand on the sector .
Bank of America’s Monthly Fund Managers Survey showed a clear 19% of managers globally were underweight in the sector in May, the lowest level of exposure since December 2008.
Demonstrating how quickly investor attitudes towards the sector have changed, investor allocations hit a 16-year high in April last year, with managers a clear 19% overweight in the sector.
The survey adds to growing caution as sharp interest rate hikes, falling prices and falling demand for office space following the coronavirus pandemic weigh on investor confidence.
The Co-President of Apollo Global Management was among executives to warn about commercial real estate while last month Berkshire Hathaway vice chairman Charlie Munger pointed to a storm brewing in the US commercial real estate market, saying banks were “full” of “bad loans”.
Capital Economics has forecast that the US commercial real estate sector will experience a peak-to-trough decline in value of 22%, with offices suffering even more as rents fall and occupancy levels fall following the pandemic.
“The outlook for the US office sector looks particularly bleak,” said Kiran Raichura, deputy chief real estate economist at Capital Economics.
The shift to more remote and hybrid work since the start of the pandemic will lead to significant valuation drops for offices in San Francisco, Seattle, Los Angeles, Chicago, New York and Washington, according to Capital.
Concerns about the US economic outlook prompted US banks to tighten their lending standards for all categories of commercial real estate loans, according to the Federal Reserve’s latest survey of senior loan officers released in May.
“The extent to which these more restrictive lending practices are preventing existing borrowers from refinancing [CRE loans] remains to be seen,” said Alan Todd, head of strategy for commercial mortgage-backed securities at Bank of America.
Investors also fear that problems in the commercial real estate sector could turn into a broader systemic threat to the stability of financial markets.
Just under half of fund managers surveyed by the BofA cited commercial real estate as the most likely cause of a systemic event, compared with just 8% who saw a downgrade of US sovereign debt due to the Washington impasse on the government debt limit as the main risk.
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