Article

Recession, capitalization rates and returning to the office are top of mind for commercial real estate professionals

May 8, 2023 · Authored by Brent W. Maier

Commercial real estate professionals are certainly keeping a close eye on the economy, including interest rates, the Fed’s next move, capitalization rates, the multifamily housing and residential markets, and of course companies’ ongoing decision whether or not to return to the office. 

With these issues in mind, Baker Tilly’s real estate advisory team hosted a webinar, “State of the commercial real estate market 2023.” We were joined by a panel featuring Stephen Zsigray, Senior Vice President of Corporate Finance and Strategy at Ashford, Inc.; Chris Fogle, Principal and Portfolio Manager at The Carlyle Group; and Ashley Grigsby, Managing Director, Capital Markets of Transwestern Development Company. 

The webinar recording can be found here, and a summary of the key topics discussed and recent trends can be found below. 

An impending recession 

During the February webinar, regarding his expectations for the rest of the year, Zsigray said, “As far as overall risk of a recession, I think the chances of that, at least in 2023, are certainly subsiding. The labor market is still strong, [and] if the Fed intends to not inflict a ton of harm on the entire economy, I think the likelihood of a recession is pretty low.”

However, sitting here in May in the wake of the turmoil facing First Republic and other banks across the U.S., more and more signs are now pointing to a potential recession in the near future. 

One thing is clear: There will continue to be a lot of uncertainty for the remainder of the year. The answer regarding a potential recession may have been simpler before the recent banking chaos, but now it is just very difficult to project where the economy is going to go from here.

The future of capitalization rates 

There was a compression of capitalization rates at the beginning of 2022, but then we saw those bottom out. Ever since, there has been upward pressure – and that is likely to continue as we get deeper into 2023.  

Cap rates likely will increase over the next several years, although the increase will vary by product type. We expect office cap rates to increase the most, followed by retail, multifamily and industrial, which could increase moderately. Factors that will drive cap rate expectations are cost of debt, rent and margin growth, while technology could enhance properties’ margins, thereby lowering the capitalization rates.