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Effects of Inflation on Commercial Real Estate
Despite the shock of the pandemic, and now war overseas, commercial real estate market recovered in 2021 from its pandemic-induced slowdown in 2020 and is expected to continue to progress throughout this year. Record numbers of commercial real estate transactions took place in 2021. The fast growth of available jobs last year, resulting in under 4% unemployment at year's end, fueled real estate demand. A record $809 billion in real estate sales occurred last year and real estate stocks gained more than 43% compared to the S&P 500's approximately 15 percentage points higher than the S&P. While growth of the job market and the economy are the most important factors affecting commercial real estate, the emergence of historic rising inflation has its effects as well.
Other important trends propelled the commercial real estate market in 2021. While the stock market was rallying into 2021, the bond market was dropping with inflation at 7%, and investors sought commercial real estate investments with annual yields between 6% and 12%. The Federal Reserve's past efforts to keep interest rates low benefited property owners with existing large commercial loans and may have prevented the potential collapse of the real estate market. Owners who had secured mortgage loans at low interest rates over that last several years have the benefit of controlling their largest expense during inflationary times. As a result, their property values increased. The values of the existing properties with low interest rate mortgages are further enhanced by increased costs of new construction and increasing interest rates. Fewer new developed properties limits supply and increases the value of existing properties.
The increase in online shopping during the pandemic fueled investors' demand for warehouse and distribution centers, driving up the purchase and lease prices for those properties. Commercial property investors pushed up the prices of apartment buildings because the demand for apartments rose when people could no longer afford skyrocketing home prices. The value of office and retail buildings should increase with the post pandemic return of employees to the office and the higher comfort level with retail shopping.
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