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The economic slowdown is having a significant impact on the real estate market, with retail sales falling by the most in a year, older office spaces facing challenges, and major companies announcing job cuts.

In this blog post, we will take a closer look at the various factors contributing to this trend and provide insights on what it means for the future of the real estate market.

US Retail Sales Plunge

The US retail market has seen a significant decline in December, indicating a potential weakening in consumer resilience that has been supporting the economy amidst rising inflation and interest rates.

According to data from the Commerce Department, total retail purchases dropped by 1.1% in December, following a downwardly revised 1% decrease in the previous month. When excluding gasoline and autos, retail sales fell by 0.7%.

Economists have noted that the year-end decrease in retail sales could signal a slower pace of consumer spending and therefore, economic growth in 2023.

While the strong job market has provided support for shoppers, many Americans are still facing financial strains, with saving rates at near-record lows and credit card balances on the rise.

The data from December is a reflection of the impact of aggressive central bank tightening and quantitative tightening that are starting to affect the economy in a significant way, as noted by Bob Michele, the chief investment officer at JPMorgan Asset Management.

Despite this, it's important to note that for the year, retail sales have risen by 9.2%, which is the second-highest ever since 1993.

On the other hand, inflation has shown more consistent signs of slowing down in recent months, which could lead the Federal Reserve to slow down the pace of interest-rate hikes. The central bank is expected to raise rates by a quarter point when it meets in two weeks.

In light of these developments, it's important to keep an eye on how the retail market may impact the economy in the future. While the Fed may adjust its monetary policy in response to these trends, it's crucial to consider the potential implications for the real estate market as well.

New York's Old Offices In Crisis

The real estate market in major cities, such as New York, is facing a significant challenge with a large number of older office buildings that have become too expensive to upgrade to attract back workers and meet stricter environmental standards.

Industry leaders have noted that the best option for these redundant spaces may be converting them into affordable housing. However, even this solution would require government incentives to make the numbers add up, as stated by Cantor Fitzgerald CEO Howard Lutnick during a panel at the World Economic Forum in Davos.

One of the main drivers of this shift is the rapidly rising interest rates. The cheap money era lifted almost all real estate universally, but investors are now having to become more selective and concentrate more on the risk of obsolescence, as noted by Nathalie Palladitcheff, CEO of Ivanhoe Cambridge.

Currently, the true impact of this shift is being masked by long leases on older buildings that have yet to expire, which is affecting the data on vacancy rates that will inevitably rise, as stated by Christian Ulbrich, CEO of broker Jones Lang LaSalle Inc.

The rising vacancy rates among older office properties will pose a significant challenge for policymakers who are also attempting to deliver more low-cost housing. Lutnick noted that there is a deep conflict between local governments wanting buildings to be more environmentally friendly and the cost of meeting these standards, as well as the cost of providing low-income housing.

This is a trend that should be closely monitored as it may have significant implications for the real estate market in the coming months.

Amazon to Cut 18,000 Jobs

Amazon, the world's largest online retailer, has announced that it will begin a round of layoffs ultimately affecting more than 18,000 employees, which represents the largest job cut in the company's history.

This decision comes as the company is grappling with slowing online sales growth and bracing for a possible recession that could affect the spending power of its customers.

The layoffs, which began last year and initially affected Amazon's Devices and Services group, which builds the Alexa digital assistant and Echo smart speakers, will now mostly affect the retail division and human resources.

While the cuts only represent about 1% of the total workforce, which includes hundreds of thousands of hourly warehouse and delivery personnel, they amount to about 6% of Amazon's 350,000 corporate employees worldwide.

Amazon is not the only large tech company that is trimming its ranks, other companies such as Cisco Systems, Intel Corp., Meta Platforms, Qualcomm and Salesforce are also making cuts.

This trend is likely to have an impact on the real estate market as the company's decision to reduce its workforce may lead to a decline in demand for commercial real estate.

Microsoft Announces 10,000 Job Cuts

Microsoft has announced that it plans to cut 10,000 jobs, or about 5% of its workforce this year, as the company is facing an increasingly bleak outlook that has now affected many of the technology industry's biggest companies.

The company will take a $1.2 billion charge in the second quarter related to the move, as stated in a blog post on Wednesday. The layoffs come as the software giant is seeing customers exercise caution, with some parts of the world in recession.

CEO Satya Nadella said that the company is seeing "customers optimize their digital spend to do more with less."

This trend is likely to have an impact on the real estate market as the company's decision to reduce its workforce may lead to a decline in demand for commercial real estate.

It is important to keep an eye on the situation and monitor the impact on the market as Microsoft is based in Redmond, Washington and has a significant presence in the area. This trend of companies downsizing is not limited to Microsoft, and it could have an impact on the real estate market in the coming months.

BofA Cuts Forecast for CMBS Sales

According to Bank of America, commercial mortgage backed securities (CMBS) issuance is expected to be lower than previously forecasted, with a new range of $45 billion to $60 billion.

The bank cites rising interest rates and expectations of slower economic growth as the main reasons for this decrease. Higher rates and slower growth will make it harder for buyers and sellers to agree on the value of an asset or the amount of debt proceeds that will be available for a given loan, as stated in a report by strategists Alan Todd and Henry Brooks.

This decrease in issuance is likely to lead to a decline in transaction and refinancing activity, which will also result in an increase in the special servicing rate due to loans that are unable to refinance successfully at maturity.

About $100 billion of SASB loans and $36 billion of conduit loans are expected to mature this year, but it remains to be seen how the special servicers will react.

Many investors are unwilling to buy bonds down the capital stack due to uncertainty around how many more Federal Reserve rate hikes are possible and the extent to which economic conditions would result in CRE credit degradation and price declines.

However, the death of office property may be "grossly overstated," according to the analysts.

US Mortgage Rates Fall to Four-Month Low

According to the Mortgage Bankers Association (MBA), US mortgage rates fell to a four-month low last week, which is helping to support more home purchases and refinancing.

The contract rate on a 30-year fixed mortgage decreased by 19 basis points to 6.23% in the week ended January 13th, according to MBA data released this week. This helped boost total applications by nearly 28% in the week, though the data can be volatile around major holidays.

The MBA's purchasing and refinancing indexes each rose to the highest since September.

Even with last week's advance, the refinancing index remains historically low. Mortgage rates have increased significantly in the last year as the Federal Reserve increases borrowing costs to rein in inflation, which has hampered activity in the housing market.

A report is expected to show that homebuilder sentiment remained near the lowest level since the early months of the pandemic in January.

The MBA survey, which has been conducted weekly since 1990, uses responses from mortgage bankers, commercial banks, and thrifts. The data cover more than 75% of all retail residential mortgage applications in the US.

This report is an indication that the decrease in mortgage rates is helping to boost the housing market, and it will be important to monitor the trend and see if this continues in the coming months.

Bottom Line

In conclusion, the current real estate market is facing a range of challenges including rising interest rates, slower economic growth, and job cuts in major companies.

These factors have led to a decrease in commercial mortgage-backed securities issuance and a rise in special servicing rates due to loans unable to refinance successfully.

It's important to monitor these trends and see how they will affect the real estate market in the coming months.

Brian La Belle

Brian serves as liaison between Rok Lending's management team and strategic lending partners including investment banks, debt funds, sovereign wealth funds and other institutional investors. Brian is also responsible for originating loans and other potential investments.