“Inflation has peaked, particularly in the developed world,” said David Lebovitz, global market strategist for J.P. Morgan Asset Management, in remarks at the firm’s weekly webinar.
“Inflation will continue to decelerate, [but] it’s going to be a multiquarter if not a multiyear process,” he continued.
This does not, however, mean the Federal Reserve is done raising interest rates, he said.
Lebovitz headed a panel discussion of the current real estate market. He was accompanied by Brian Nottage, the firm’s head of investment strategy for real estate in the Americas, and Candace Chao, a portfolio manager who specializes in U.S. real estate mezzanine debt for the firm.
Starting with a global, top-down viewpoint, Lebovitz noted that the supply-chain problems of the past have largely improved, but the rate of improvement has slowed and bears monitoring. Labor markets are tight, he said, but wage growth continues decelerating. Overall, our economy has shown “surprising resilience,” said Lebovitz, yet its growth is slowing.
Despite his view on inflation, Lebovitz stressed that inflation “remains higher than policymakers would like.”
That’s why he believes “the Fed will raise rates one more time,” he said. Just once more, and probably not by a lot. Another 25 basis point hike should really “put the lid on the inflation problem,” he said.
As far as the impact of this backdrop on the real estate sector, Nottage said that, absent another shock, real estate prices should stabilize and perhaps even move upward by the middle of this year.
But Chao sounded a semi-cautious note. The cost of borrowing remains high, she said. “What’s not helping is all the noise around regional banks,” she explained. “That’s going to further constrain the availability of debt.”
Back in 2015, she explained, 90% of the growth in real estate debt came from smaller banks—“the same banks that are now facing increased scrutiny from regulators,” she said. “So they are not going to be lending any time soon, [and] that will create a very large gap in the market.”
There is still liquidity, she stressed, but the debt market is” constrained.” She said she does not think it will take as long to “come out at the other end” as it did after the global financial crisis of 2008.
Still, said Nottage, the U.S. real estate market is fundamentally “actually in a pretty good position.”
Chao agreed. “Yes, it's a good time to be a lender. Right now, the opportunity set is really once-in-a-market-cycle,” she said, referring to the combination of high interest rates and tight lending standards. “You basically are getting paid more to take to less risk.”
She conceded, however, that she is “incredibly selective” in today's market. For example, when it comes to office space, she finds a “bifurcated market.” She is focusing on “top quality” office properties with stable cash flows.
Nottage, too, said there is a big difference in office properties that are in growth markets. In the Sun Belt, for instance, there are lower vacancy rates than in coastal cities, he said. “You want to be within major markets in these growth industry clusters,” he said.
Despite layoffs in the tech sector, higher wage industries generate higher rents in the long run, he said.
Next came questions from the audience. In answer to one about the idea of converting empty office space into residential units, Nottage said it “sounds great but is actually pretty hard to do.”
The next question concerned redemption restrictions in some alternative real estate funds, and whether such limitations pose significant risks to the overall real estate market. “It's certainly a relatively difficult environment from a redemption-request perspective,” said Nottage.
Declines in equity and bond markets might explain why many investors are trying to get their money out of their real estate holdings, he said, but the situation should calm down “once some of the uncertainty [in the economy] goes away.”
Asked about the prospects for real estate in the retail space, Nottage said the market has been “extremely strong” since the sharp declines in 2020 related to the Covid pandemic. Stores remained empty, and retail construction had stopped.
Now that demand has come back, there is a shortage of new retail space available. The weaker retailers were “weeded out,” he said, and what remains are the stronger ones, many of whom are even expanding.
“I didn't think in 2020 that retail would look like this,” said Nottage. The lesson, he added, is, “There’s generally a way to make money if you're willing to take certain risks, because the world isn't always how you think it's going to be.”