The commercial real estate market endured its fair share of challenges in 2023, as businesses faced a rising interest rate environment, and elevated inflation impacted property expenses. Looking ahead to 2024, these pressures are likely to persist. But, according to Mike Thomas, head of PNC Real Estate, there are strategies businesses can employ to help contend with the ongoing economic uncertainty.

“A lot of developers are in a wait-and-see mode right now in terms of making decisions about borrowing or refinancing. It’s hard to predict what the Fed is going to do with interest rates in the coming months, but businesses that are able to take some practical steps to adapt may not only fare better in the current setting, but also be in a better position to rebalance their portfolios when rates eventually do start to come down.”

Such approaches might include working with their bank to structure flexible term extensions that provide financing stability through a volatile period. Borrowers may also consider rate hedging products that create more short-term interest rate certainty or treasury management solutions that increase efficiency in a rising cost environment. When looking for financing, particularly as it relates to multifamily real estate, Agency Finance may be an appealing solution, as it allows for longer loan terms than conventional finance options and fixes the interest rate, eliminating concerns about increasing borrowing costs. 

Stability Despite Uncertainty for Some Sectors

While no sector of the commercial real estate industry is immune to economic pressures, some may be better positioned than others to endure a high interest rate environment in 2024.

  • Industrial and Warehouse – Because development cycles are shorter for industrial and warehouse properties, this sector has managed supply reasonably well over the past few years. As a result, supply and demand are in relative equilibrium, and lease rates have kept up with cost and rate increases. 
  • Lodging – Lodging has performed well since recovering from pandemic lows, although historically it has been particularly sensitive to economic downturns due to daily rate repricing. In the current economic cycle, the leisure traveler has continued to use this asset class owing to strong consumer balance sheets and employment. Looking into 2024, the outlook is likely to be driven by the severity of any potential economic downturn versus the continued high-rate environment.
  • Student Housing – While student housing is impacted by interest rates, the balance of supply and demand has led to steady performance. As demand is not projected to decline in 2024, this asset class is likely to remain stable.
  • Retail – Retail has performed reasonably well over the last few months, with entertainment venues, restaurants, and similar businesses seeing steady revenues. Similar to lodging, the strength of the consumer has buoyed performance in this sector.  However, retail is another example of an asset class that could be negatively affected in the event of an economic downturn, as this would impact consumer spending. 

Challenges – and Opportunities – for Multifamily Real Estate

Because it has performed so well over the past several years and supply and demand dynamics provided sustained tailwinds for owners, multifamily real estate has attracted a great deal of capital, and supply has grown to meet the substantial housing need in the U.S. The sector has also commanded tighter debt service coverage levels and greater loan advance rates in recent years, making the sector more sensitive to the current high interest rate environment. Increased borrowing costs, lower valuations and resulting diminished loan availability has reduced housing permits and starts across the country and should mitigate current supply concerns toward the end of 2024.

The impact this is likely to have on supply and demand dynamics may lead to significant opportunity for developers in 2025 and beyond, when interest rates may have come down and the economy has potentially emerged from its current cycle. Even with new development forecasted to be down in 2024, household formation and population growth will continue, leading to an increased demand for housing – and a resumption of a housing supply imbalance.   

Because the shortage of affordable housing continues to affect the country in such an impactful way, Thomas says that PNC will remain focused on providing affordable housing equity, even amid the challenging economic outlook. “We know that the lack of affordable housing is a major issue across the country, and that the problem is only going to grow throughout the next year,” he said. “PNC will continue to be active in investing in affordable housing equity in 2024, just as we have been for years, to try to address this need.”

PNC will remain focused on providing affordable housing equity, even amid the challenging economic outlook.
— Mike Thomas, head of PNC Real Estate

Ready to Help

PNC can work with you to develop strategies to help you manage issues related to market volatility and commercial real estate. For more information, reach out to your PNC Relationship Manager, or contact us.