European Glide Path Report

Macroeconomy

Are we headed towards recession? What about the banking sector and its relation to CRE? When will the European Central Bank (ECB) and the Bank of England (BoE) pivot? Where will the 10-year govt bond yields settle?  

Our view: 

• We’re not quite “there yet” on inflation; underlying pressure remains for some of the stickier portions of inflation.  
• Both the ECB and the BoE will remain cautious and data-dependent before prematurely cutting. Expect both central banks to pivot in Q3 2024.  
• Economy remains resilient due to the ongoing strength of the consumer and labor markets.  
• The euro area and the UK will narrowly avoid a recession. This conceals wide variation across member states.  
• Economic growth will remain anemic. 
• The risk of recession remains elevated. 
• The correction in CRE started mid-2022; this is not the first phase. Recovery speeds will vary based on property type, quality, and geography, but a rebound is not far off. 
• Historically, the best time to buy property is when the ECB and BoE begin to pivot (this tends to coincide with a bottoming and inflection in property values).  

>> Read more in the full report

CRE Credit & Debt Markets

What does all this mean for CRE yields? What needs to happen to allow the debt markets to free up? 

Our view: 

• Credit liquidity among banks will remain tight through the downturn until downside risks moderate (pencil in gradual thawing in H1 2024). 
• Banks are an important lender for CRE, and their diminished presence in CRE lending space will lead to a gap that other sources will continue to seek to partially fill (will be tough for these sources to fully offset the liquidity provided by banks).  
• Lending conditions and terms are increasingly onerous; more liquidity is available for best-in-class assets and preferred sectors.  
• Maturing debt is facing a particularly difficult environment. There will be more distress in upcoming quarters and years, particularly in the office sector. 
• This is not the Great Financial Crisis all over again. Banks are well-capitalised as evidenced by the European Banking Authority’s latest EU-wide stress test. Office/CRE poses minimal risk to the banking system. 

>> Read more in the full report

CRE Credit Flows & Outlook

Glide path to CRE credit flows and the outlook on property values. When will deal volume pick up?  How far will property values fall?   

Our view: 

• Our framework for the capital markets recovery is as follows:  
  • Phase 1: A slowdown not necessarily a recession – needed to bring inflation down 
  • Phase 2: The ECB and BoE pivot and start cutting rates (but not going back to zero-bound)   
  • Phase 3: Price discovery – the market reprices to the higher rate environment    
• The crux of the value story continues to be linked to comparative yields and spreads. Interest rates will remain higher for longer, meaning that property yields must adjust upward to maintain a spread relative to risk-free and other risk-adjacent yields. Accordingly, we forecast further yield expansion through H1 2024 with variation across sectors and markets.  
• Property values will decline in the 20% to 35% range peak-to-trough, with significant variation depending on property type, quality and geography.  

>> Read more in the full report

Strategic & Tactical Considerations

How should I think about the buy/sell/hold prospects right now? How do CRE returns perform historically through a downturn? What higher-level strategies are most appealing right now? What about more defensive strategies?  

Our view: 

• CRE stacks up well against other asset classes on a cumulative-forward looking basis.  
• Periods following times of dislocation are typically great vintage years for investment. 
• Income resilience remains key to the next chapter; NOI growth will remain resilient for most property types. 
• Income resilience is being redefined across each CRE property type, as well as against the context of tenants, even down to tenants’ industry characteristics. 
• Defensive/core, value add/opportunistic and debt market strategies span a wide spectrum of sectors and profiles—outlined further within the report.  

>> Read more in the full report

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