Though pandemic-fatigue may be setting in for many people, it’s difficult not to address the elephant in the room that has shaped life as we know it for the past two years. With a new, effective vaccine and hopes of a decline in cases, many expected Covid to be a thing of the past by late 2021. However, the pandemic’s course proved to be unpredictable with new variants, surges, and breakthrough cases. Society is learning to adapt to life with the virus and while some of the changes made during the pandemic may fade, others are likely to remain permanent. It seems that Covid is likely here to stay, and while we can expect flare ups and new variants in 2022, setbacks will likely be shorter lived. As vaccines become more widely available and new antivirals and antibody therapeutics emerge, Covid’s impacts on people, healthcare systems, and the economy should be more subdued in 2022 and beyond.
Inflation and Interest Rates
Another major theme in 2021 that will continue to be top of mind in 2022 is inflation, which will be impacted by changes to interest rates. Inflation reached historical highs in the United States during 2021, which was largely due to strong economic growth, labor shortages, and supply chain imbalances. We can expect prices and inflation to remain high for at least the first half of 2022, until the Fed steps in and ends its emergency quantitative easing policy. It’s anticipated that the Fed will start to gradually raise interest rates by Q2 or Q3 2022, with interest rates increasing by approximately 75 bps by year end. While interest rates will likely increase compared to 2021, they will still be low compared to historical levels. Additionally, long-term interest rates are expected to remain low, providing attractive financing conditions for commercial real estate.
Real Estate Investment
2021 was a strong year for commercial real estate investment, especially compared to 2020 when the pandemic all but halted investment activity, due to strong investor demand and abundant capital flows. Industrial/logistics, life sciences, and multi-family assets were the biggest winners in 2021, providing the most resilience to the pandemic’s effects. We can expect continued strong demand for these sectors, though more traditional office and retail sectors are primed for a comeback as society learns to adapt to the pandemic. Real estate transactions are anticipated to increase in 2022, in part with the help of foreign capital and the recovery of interregional investment as travel restrictions continue to be lifted. Despite minimal increases in long-term interest rates, strong demand for commercial real estate will likely push pricing higher and generally hold cap rates steady.
The Future of the Office
While some people haven’t stepped foot into their office building in almost two years, the majority of workers have been back in the office to some extent over that time. The pandemic has likely permanently changed the way we work and how companies look at their office space. Though in 2021 more people returned to the office compared to 2020, on the flipside, Covid pushed back many companies’ return-to-office start dates. Combined with the pandemic, 2021 saw a tightening labor market and the much-discussed Great Resignation. These influences are bringing workforce issues to the forefront, such as well-being, ESG, and adopting more individualized approaches to where work gets done. Companies are embracing hybrid work, and while remote work is often the emphasis of “hybrid”, office space will continue to remain the hub of business activity and collaboration. Both employers and landlords of office buildings will need to invest in amenities, services, and technology to support hybrid work arrangements, collaboration, and well-being in order to attract and retain talent and tenants. In 2022, as the U.S. office market continues its recovery, leverage will likely remain in the hands of tenants in the form of generous concessions and lower rents.
The views expressed herein are presented for informational purposes only and are not intended as a recommendation to invest in any particular asset class or security or as a promise of future performance. The information, opinions, and views contained herein are current only as of the date hereof and are subject to change at any time without prior notice.
Vice President, Asset Management
Boyd Watterson Asset Management, LLC