Private lenders should anticipate these five developments among CRE asset classes in 2022.

Despite the initial shockwaves felt at the onset of COVID-19, certain sectors of the real estate market have proven to weather the storm with resounding resilience, and some asset classes have barely missed a beat. Soaring e-commerce sales have accelerated the demand for industrial properties, and multifamily properties have seen rising rent prices coupled with low inventory, making that asset class an attractive choice for investors in top markets.

Although some asset classes rebounded quickly, others may have changed for the long-term. The pandemic helped transform the idea of a traditional office and reshaped the way we interact. Remote work has become a steady option for many, and certain businesses fundamentally shifted their reliance on brick and mortar to digital operations. What does this mean for office spaces? Is a reset anticipated in the near-term?

Other asset classes have been forced to reimagine their operations and long-term vision to stay competitive. Student housing, senior housing, and health care real estate experienced several challenges that placed pressure on facilities. Among these were decreased occupancy, recruiting and retention, and rising operational costs. As a result, owners and operators are exploring ways to both increase revenue and control costs while growing occupancy.

With so many unusual, unpredicted trends stemming from COVID-19, last year’s broader macroeconomic recovery presented an overall solid rebound. Bloomberg reported a record 6.4 million jobs created in the U.S. in 2021. Leisure travel also made a strong comeback in 2021, with the U.S. Travel Association predicting that domestic leisure travel will exceed pre-pandemic levels in 2022.

Still, even with widespread vaccine availability, the passage of an historic bipartisan infrastructure bill, children back in school, and a healthy real estate market, experts remain optimistic but mixed on the shape of the recovery in 2022. The World Economic Update from the International Monetary Fund headlines “Rising Caseloads, A Disrupted Recovery, and Higher Inflation.” New mobility restrictions resulting from the Omicron variant, rising energy prices, and supply chain bottlenecks resulted in higher inflation than originally anticipated and predictions for more moderate growth in 2022.

As seen in past market shifts, while the appetite of traditional lenders moderates, private lenders continue to demonstrate their viability during economic setbacks and will play a key role during and in the post-pandemic recovery period in the real estate market. Now, as opposed to being considered an esoteric financial product, bridge lending has cemented itself into the mainstream financial ecosystem. Many property owners and operators enter 2022 with the need for capital to reposition, renovate, or acquire value-add properties as a result of the ongoing changes, effects, and opportunities resulting from the pandemic. Here are five developments private lenders should anticipate among the asset classes in 2022.

1. Office Space in Limbo

Office utilization rates remain low due to concerns of COVID-19 transmission, but for the first time since the start of the pandemic, the U.S. office market showed positive net absorption during fourth quarter 2021. The National Association of Realtors, however, calls it “the tale of two bifurcated office markets,” noting that primary markets, such as New York City, San Francisco, Washington D.C., Los Angeles, and Chicago, show weak growth compared to secondary markets, primarily in the Sunbelt states, which show steady growth in the office space sector. So, while vacancies in core markets remain elevated, and there’s an increase in sublease listings as tenants continue to downsize, Class A buildings in ideal locations with smaller footprints (i.e., at or below 2,500 square feet) are showing some signs of demand.

Given the lopsided landscape of the current real estate market, landlords are reimagining and repurposing existing spaces to respond to market demands. They are also proactively seeking tenants through various concessions and offering more favorable economics for tenants (i.e., free rent periods, lower escalation provisions, move-in allowances, etc).

Looking down the pipeline, lease brokers anticipate office spaces will start to rebound in late 2022 or early 2023. That may result in more viable lending opportunities in better markets.

2. What’s in Store for Retail?

Big box retailers and large malls struggled pre-pandemic due to the surge of online shopping. The pandemic exacerbated those challenges, driving a number of large retailers to file bankruptcy and forcing owners to default on their underlying debt obligations. Fortune reports that nearly one-third of the total 12,200 U.S. store closings in 2020 were department stores, clothing chains, or other mall-oriented companies. Due to a lack of available financing, sales of vacant malls and big box retail facilities has lagged.

In-line retail, strip centers, and grocery-anchored centers have fared much better. The Wall Street Journal states that these types of shopping centers have been “propelled by increased foot traffic to grocery stores, curbside pickup, and population shifts that favor suburban shopping.” At the height of COVID-19, modifications and forbearance agreements with tenants were prevalent, as owners struggled between lower or no rents and a center potentially plagued by significant vacancy. Once states started to lift COVID-related restrictions, retail centers found their feet again and experienced greater activity. Concerns remain that future variants will cause another dip for tenants and owners of strip centers.

Although there is still a risk of future disruption because of new variants and other factors, some private lenders see opportunity in the retail sector, albeit at the right basis and with more moderate leverage.

3. Hospitality Sees Five-Star Forecast

The hospitality industry faced one of the biggest disruptions. It was hit quickly and hard by the pandemic due to government shutdowns and COVID restrictions. In 2021, the pent-up demand for social interaction and travel has helped destination hotels and attractions experience a renewed swell of activity. This means that in certain destination markets that were popular pre-COVID, the hospitality sector may continue to draw demand in 2022 and once again garner the attention of investors, developers, and lenders as recovery climbs.

A recent Expedia survey on 2022 travel trends found that 59% of travelers are planning domestic-only vacations, particularly to warm-weather beach destinations and that 78% of respondents are looking to take more frequent shorter trips. As leisure travel picks up, hotel occupancy and other areas of hospitality will see a welcome revival. This uptick in tourism will hopefully spark business travel to follow closely behind.

Some private lenders may seek out distressed and value-add opportunities in strong markets within the hospitality sector, as hotels reimagine and diversify their offerings to respond to new travel trends and consumer demands. In other markets, conversions and repositioning of hotels and other hospitality properties may create lending opportunities.

4. The Rebirth of Mixed Use

Mixed use, whether residential over office space or residential over retail space, is taking steps to rebound from the various issues impacting each segment of the property, including business closures and moratoriums on tenant evictions. The residential component of mixed-use properties will rebound faster than the office or retail components, as the demand for apartment leasing continues an upward trajectory underscored by the continued housing market frenzy. For lenders, this means a heavier reliance on the residential component when underwriting these property types.

While not a new trend, mixed-use properties experienced a rebirth during the pandemic when consumer shopping behavior transitioned from malls and big box retail to mixed use and strip centers. As such, some investors, owners, and operators have their eyes set on mixed-use zoning and adaptive reuse projects to be a value-added investment addressing changing needs in the post-pandemic era.

5. Industrial Leads the Way

Industrial and warehouse properties didn’t skip a step during the pandemic in response to the flood of e-commerce sales, especially properties in well-located areas near ports and transportation corridors. Further, due to the online retailer’s need to reach the “last mile” of distribution, smaller warehouse and industrial properties saw either a direct lift through sales or leases to online retailers or an indirect lift from the resulting demand and lack of available inventory.

Although the surge in and growth of online retailers during the pandemic will not continue at the prior breakneck pace, strong demand is expected to continue in this sector for the foreseeable future.

Summing It Up

The market trends in various asset classes suggests an optimistic outlook for private lenders in 2022, with industrial and multifamily leading the way. Amid the recovery, hospitality and mixed use may make a comeback. Lenders will continue to be selective with retail and office space because the pandemic shifted consumer behavior and workplace culture, potentially permanently.