Featuring David Chen, Portfolio Manager, Commercial Real Estate
Across the commercial real estate sectors, we are seeing a lot of dispersion in performance. Industrial has been a strong performer, with values higher than the pre-COVID levels. Multifamily is up as well. On the other hand, office, lodging, and retail are down as a whole, in some cases over 10 percent.
We believe the fundamentals of most major commercial real estate sectors have bottomed. Going forward, we expect the rest of this year and 2022 to be good years, particularly for hotels, as it is entering into what we expect to be a strong recovery period. We believe industrial and the multifamily sectors should continue to perform well.
PIMCO has been actively investing in the industrial sector for a number of years. There are two main drivers. One is the desire by ecommerce tenants to get closer to their consumers, to be able to deliver same-day service. The other driver is that as a percentage of an ecommerce company’s supply chain costs, rent is potentially less than 5 percent. That implies a fair amount of elasticity from these tenants in terms of what they can pay for rent. With the pandemic exacerbating these two powerful drivers, we expect continued tailwinds for the industrial sector.
Why are we seeing opportunities in the CRE lending space now?
There are four key reasons: 1) flexible credit is not being provided by traditional funding sources; 2) asset-level performance has been impacted by COVID-19, 3) loan maturities need to be addressed; and 4) transaction activity from sponsors is increasing.
Even prior to the pandemic, there was a need for flexible credit that borrowers could not obtain from traditional funding sources like banks, insurance companies, the commercial mortgage-backed securities (CMBS) market or the agencies. That is the market segment we focus on – loans that don’t fall neatly into one of those traditional funding sources, so called transitional loans.
COVID-19 has created even more dislocation as a result of its impact on asset-level performance. Essentially, it is creating more transitional situations that need to be capitalised. This imbalance is highlighted by the fact that there is a wave of loan maturities that need to be addressed. Many lenders that have been targeting this segment of the market have been unable to extend credit due to market volatility.
Finally, there are positive tailwinds with the increased transaction activity from sponsors. We expect fundamentals and valuations to improve from this point forward.
These factors combined are creating some potentially attractive opportunities. One benefit of our large real estate platform is that we see investment opportunities from a variety of relationships that we have, including through intermediaries, as well as directly from sponsors.
With a broad real estate business, we are able to offer real estate counterparties a menu of options, essentially a “one-stop shop” for capital.