Analysis by David Salz and Thomas P LaSalvia, PhD
Question marks. This is the response of many industry experts when asked about COVID-19 and office sector performance. Given this overarching sentiment, it comes as no surprise that transaction volume for the sector is significantly lower than normal. Overall, as of the end of September, the number of national-level transactions in 2020 is just 35% of recent yearly totals, with many of the 2020 trades completed in the first quarter, prior to COVID-19 making daily news. From a metropolitan perspective, there is some variation as places such as New York, Dallas, and Suburban Maryland have very little activity, while Sacramento, Tampa, Ft. Lauderdale have closer to normal levels of activity. Further, there is also geographical nuance regarding the types of properties being traded. While recent national-level data illustrates a fairly typical distribution of trades, digging into metro level data exposes vastly different results.
In the table below, we show the metro level relationship between 2020 median cap rates and the average of ’18 and ’19 median cap rates (we limit the sample to metros that have recent average yearly transaction counts of at least 20 to assure sufficient data). Note how the metros are broken up into three groups: metros where the cap rates are lowest (left), most similar (center), and are highest (right), in comparison to previous years. This is not meant to say that Providence and Westchester are attracting a disproportionate amount of investor interest, but instead to highlight where bias in transactions is showing up. For the metros on the left, the low cap rates are signifying that only the highest value properties are actively trading, likely due to great investor uncertainty, whereas the metros in the center have more typical activity and distributions. As for the metros on the right, where cap rates are skewed towards the high end, the message is not as clear. Given that in typical recessionary periods transactions volume is often low for low-value properties, this may actually be an indicator of a decline in investor confidence for these metros.
Making sense of transactions during the early quarters of a recession tends to require very detailed analysis, as volume is low given uncertainty. National trends bring only limited value as much nuance exists given investor sentiment for various metros, and the availability of capital and financing.
David Salz leads the Moody’s Analytics CMBS desk within the Structured Content Solutions group, providing timely and insightful data analytics to CMBS and CRE professionals. Prior to his current role, he managed the ABS desk and worked on various CLO related projects.
Thomas P LaSalvia, PhD is a Senior Economist in the research and economics department at Moody’s Analytics REIS.