The Federal Reserve is watching commercial real estate borrowing more closely as a potential risk to financial stability. They note the potential for loan defaults and inability to refinance given a correction in property prices. Losses on CRE loans “will depend on their leverage because owners of buildings with substantial equity cushions are less likely to default. Also, loans with high loan-to-value ratios are typically harder to refinance or modify.” No one knows how much more interest rates will rise, how much property prices will adjust, or whether the U.S. economy will dive into a recession, experience a mild downturn, or even continue to slowly grow into 2024.
Critical metrics of commercial real estate industry health include market liquidity and deal activity. Nationally, transaction activity of $5+ million properties are down 55 percent year-over-year, however Q3 sales activity seems to be in line with the longer term average transaction volume. The local commercial real estate market is active, although sales activity has slowed. Below is a summary of larger (i.e., >$5 million) commercial real estate sales located throughout Delaware that occurred from June 2023 through October 2023. The investment sales below reflect in-place cap rates from 6.30 to 8.80 percent with a median of 7.55 percent.
- 1000 Centerpoint Blvd – is 14.6 acres that is improved with a 135,000 square foot cold storage warehouse that sold in October as part of an eight property portfolio at an allocated price of $9.45 million, or $70 per square foot,
- Central Park Self Storage – is 8.384 acres in Felton improved with 90,450 square feet of self-storage space that sold in October for $7.8 million, or $86.24 per square foot.
- Red Lobster – in Wilmington sold as a net leased investment in September after 370 days on the market for $5,300,000, or $567 per square foot.
- 855 Dawson Drive – is a 40,705 square foot industrial building in Newark that sold in September to the in-place tenant for $5.0 million, or $122 per square foot.
- Bob’s Marine Service, Inc. – is 7.83 acres improved with five buildings in Ocean View that sold in September for $5.0 million, or $638,570 per acre.
- 600 Grantham Lane – is a 230,000 square foot industrial manufacturing building on 35.27 acres zoned HI that sold in August for $7.5 million, or $32.61 per square foot.
- Windsor Forest Townhomes – is a 173-unit apartment complex on 10.47-acres in New Castle that sold in June for $31,722,451, or a $183,367 per unit.
- Chateau Orleans Apartments – is a 168-unit garden-style apartment complex on 7.07-acres in Wilmington that sold in June for $26.5 million, or a $157,738 per unit.
- Homewood Suites – in Wilmington is a 6-stsory, 120 unit hotel that sold in June for $32.5 million, or $270,833 per unit.
- – is a 119,446 square foot grocery anchored shopping center in Wilmington that sold in June for $29.8 million, or $249 per square foot.
- Bay City MHP – is a 300 lot mobile home park with a marina on 187 acres located in Millsboro that sold in June for $42 million, or $140,000 per lot.
Less market liquidity and restrictive credit conditions for commercial real estate has translated into diminished sales volume and asset repricing. With price discovery largely missing there is uncertainty when the commercial real estate market activity will pick up. However, given all the capital sitting on the sidelines investors are showing some promising signs as interest rates seem to be stabilizing and asset pricing firming.
Despite 2023 being a turbulent and challenging time for those in the commercial real estate industry it is anticipated that 2024 will be more positive as the Fed is expected to deliver a soft landing for the economy. Downside risks are tied to stressed bank loans secured by commercial real and many assets acquired with low cost debt facing refinance risk in 2024-25. However, if the Fed is nearing the end of its rate hikes, then investors with war chests of capital to deploy should find 2024 a good time to pursue investment opportunities.