Pandemics require tremendous societal effort to contain, but in its wake can have destabilizing effects on the economy. The United States Federal Reserve Bank has cut interest rates by half a percentage point. The European Union is contemplating a half a trillion-dollar monetary insertion, in attempts to boost market sentiment. Pandemics are infrequent, but unpredictable and out of control With Covid-19 sweeping the world, sending entire countries into lockdown, the economy is taking a severe beating. Already the UN estimates that the outbreak will cost the world up to USD 2 trillion in 2020 bringing global growth to under 2.5% this year.
In India, the Sensex, which closed at 41,565 on 12th February fell to 29,915 by 20th March, losing over 11,000 points. In these volatile times people tend to look for options with higher degree of safety and stability like bonds and commercial real estate.
Fallout on Commercial Realty Sector
The effect of Covid-19 on commercial real estate has been perceptible but muted. The sector has been on a high-growth path for the past three years, with gross leasing activity at 25% year-on-year in 2019. The current year was expected to be equally good, but the coronavirus scare could finally rein in growth causing a temporary slowdown in the sector.
Current trends seem to suggest that delayed decision-making and reduction in capital expenditures may lead to the deferment of deals by three to five months affecting the sectoral growth rate. Many new deals are stuck with key decision-makers unable to conduct any business owing to travel restrictions. Simultaneously, numerous parties have postponed transactions and decided to adopt a wait-and-watch policy. Reports also suggest that the number of enquiries and site visits have declined. Currently, only pre-committed deals are going through on account of those being ratified at an earlier date.
However owing to the prevailing lack of supply of Grade A office space, the sector is still expected to continue to grow, albeit at a lower rate. Specifically those developers or investors with exposure to already rented out space will see their property appreciate, as capital will flow to safer yield generating assets.
A Bright Spot in Commercial Real Estate
When it comes to investing in commercial real estate, one should do an in-depth due diligence along various parameters to ensure turbulent times like these have little impact on your portfolio properties. Properties which are under construction and already going through liquidity crunch due to economic slowdown are expected to be the worst hit as work will be stalled and cash flow would be diminished. Similar situation can be seen with vacant properties also as new rental commitments might get deferred for three to six months. Only pre-leased properties have witnessed the least impact of COVID-19, as even though companies work from home, the pre committed rentals will be paid as per leave and license agreements. Also, premium commercial properties have clear advantage in this scenario as tenants are typically MNCs or large corporates with strong business fundamentals and sustained cash flows to service the rentals.
Owing to these factors, commercial real estate is still bringing rental yields in the range of 7-9% on Grade A commercial assets and the performance is expected to sustain in the near term. Customers looking for safe haven for there liquidity should keep an eye for pre-leased properties in the market. Here rental income is assured as the properties have already been rented out with strong rental agreements in place. The deferment of deals and slowing of business cycles have little effect on them. Pre-leased properties will bring guaranteed returns in the near to medium term countervailing the volatility in the stock markets and adding some solidity to your portfolio.
However, it is important to choose well if you are planning an exposure to pre-leased commercial property. As location is a critical factor in the commercial real estate business, be very sure that the long-term forecast for the location is positive. You should also pay attention to things like quality of construction, cost of maintenance and the credibility of your property manager. Finally, your aim should be to choose a property with good quality tenants demonstrating sound financial health and a zero-default track record to ensure healthy returns.
Owing to the factors outlined, customers holding liquidity should look for safer havens like pre-leased commercial property or government bonds to earn stable and healthy monthly income.