Let’s Talk Real Estate

Another unanticipated impact of the pandemic and current economic uncertainty is ahead: real shifts in the commercial real estate market. As I look for landmarks, those that can offer at least a 5-year “near term” view, commercial real estate is a bit of a “canary in the coal mine.” Macroeconomic forces that include high inflation, interest rate hikes, increased regulations, and this new hybrid work environment have thrust us into uncharted territory. And the very real challenge is that both real estate leases and new commercial developments reflect decisions being made now, with tails that can extend 5, 10, or 30 years. All of which require betting on a future we don’t yet see clearly. So it’s important to pay attention to what’s happening there. I ask a lot of questions of developers, real estate brokers, property owners, and commercial tenants. How are landlords and tenants negotiating leases for office space, and where? Where are commercial developments still starting – or not? For what kind of client?
 
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In the office leasing space: this year leases, renegotiated for a short term to get tenants through the pandemic, are being reviewed again for the next lease term commitments.

• Power to the tenants. The power most assuredly is in the hands of the tenants: do we think hybrid work is with us into the foreseeable future such that we need to downsize our space? Is my landlord taking care of my building to my satisfaction, or are my employees pushing for a new location? Lots of reasons to consider change, including changing space requirements, the flight to quality, public safety concerns, and seeking a specific environment like a downtown vs the suburbs.  
• Hybrid work. Again, do we need less space?
• Government is not immune. Saint Paul’s downtown buildings, for example, are full of state leases that – believe it or not – typically include a “30-day notice” clause to break a lease.  I understand that several state agencies are being encouraged to relocate out of current leased spaces and into state-owned buildings near the Capitol complex. Can you imagine the negative impact on Saint Paul’s downtown property owners?

 
New developments: where are they starting (or not) and who’s funding them? 

• Industrial is still strong. This REjournal December 2022 article refers to the “soaring demand” for industrial/distribution/logistics space, alongside concerns that rising rates could scuttle new developments.
• Housing supply needs are profound. The need for more housing, across the affordability spectrum, is well-documented. Private sector developers need to lean in here but are faced with real hurdles: increased regulation/fees, rent control, the very real cost of money right now.  

 
Traditionally, real estate investments perform well in a rising interest rate environment. But so much more is going on right now. Developers and business owners/tenants alike are needing to execute on strategy that feels like a moving target.  Despite economic headwinds, the pace of change will not ease – I just don’t yet have a good sense of what that change will look like. Will keep you posted as I learn more.

See you in the trenches,
B