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When we entered the crisis in the spring of 2020, there was a large gap between buyer and owner/seller expectations – buyers were facing rising uncertainties and higher financing costs which lowered what they were willing to pay. At the same time, owners/sellers were not willing to give a discount, relying on liquidity of financial markets instead, as long as they were able to access it. This expectations gap led to low transaction volume in the past two quarters. With the recovery of the economy, the gap narrowed for industrial and apartments as they can provide steady income to investors, and we have seen a bounce back in the transactions for these two sectors. The gap remains wide for the retail sector and its distressed sales volume in Q3 2020 is the highest among all major property types, according to Real Capital Analytics.

Due to ample liquidity and investors’ mostly positive outlook on commercial real estate (CRE) fundamentals, the cap rates in 2020 remained relatively stable across the apartment, industrial and office sectors. The retail sector has endured the greatest disruption of all the property types through this crisis, with cap rates expected to rise 100 basis points (bps) by Q2 2021, compared to the pre-COVID-19 level. It will also continue to be a challenged sector even after the rebound of the economy, and the retail cap rates are not expected to fully recover until the end of 2024. Remote work policies might have a short- to medium-term effect on future office demand and we forecast the cap rates to rise 30 bps in the next year. They are projected to recover to the pre-COVID-19 level by mid-2022.  Industrial and apartment are expected to weather the crisis, with minimal increases in cap rates.

Assuming widespread availability of a vaccine in 2021 and mass immunization, we expect commercial real estate to rebound and generate solid income, despite the office and retail sectors potentially facing lengthier impacts. Also, due to a prolonged lower interest rate environment after the crisis, the long-run cap rates are expected to stabilize and stay at a slightly lower level than that of pre-COVID-19.