Despite numerous reports of an imminent recession, 2023 began with relatively positive news regarding the U.S. economy. A strong January labor report and cooling inflation metrics signaled a slowing of interest rate hikes and steadying of the market. Many in the market began to believe that the Federal Reserve’s efforts could actually result in the “soft landing” that recent interest rate hikes were intended to achieve.

The positivity was short-lived. First, February reports indicated unexpectedly high job growth and continuing inflation across the national economy. Then, two of the three biggest bank failures to ever occur exploded on March 10, as Silicon Valley Bank and Signature Bank were taken over and had their assets seized to protect depositors. Credit Suisse Bank may not be far behind (albeit in the European market). The stock market is experiencing more volatility than passengers on a roller coaster.

There is predictable uncertainty in the commercial real estate industry, causing investors and owners to pull back as they wait to see how the market develops. While some see recent events as a harbinger of further deterioration in the market, others have confidence that the effects will be short-lived. Unfortunately, we cannot predict what’s in store ahead. We can, however, share some perspectives based on recent transactions in which we’ve been involved and what they might mean for certain industry sectors.

While lending markets have substantially tightened over the past year, owners possess significant equity in their projects as a result of market price increases over the last several years. As a result, while activity has slowed, there are plenty of sellers who want to realize those gains and redeploy that capital back into the market to delay the associated tax obligations.

The most hotly negotiated issue we’re seeing in purchase agreements are extension rights. Not only are buyers receiving the right to extend due diligence to permit surveys, environmental reports, appraisals and other necessary inspections, both buyers and sellers are also seeking extensions for closing deadlines. Buyers want these extensions to provide ample time to coordinate closing deliverables, while sellers need extensions to begin their search for a replacement property to complete a 1031 exchange. These extensions provide a host of traps for the inexperienced investor, as estoppels and appraisals may expire during the delay and ongoing property management issues may arise (such as expired insurance policies and/or rent defaults).

The industrial market remains hot. Developers are increasing their speculative projects in reaction to steady demand over the past several years. The effects are evident – just a quick drive to SMF reveals a host of new industrial buildings springing from the ground. While vacancy may increase due to the new supply, rental rates continue to climb as the logistics sector shows little sign of slowing. Tenants have been eager to lock up limited inventory before another user steps in or rental rates increase, but supply chain issues are delaying delivery of spaces, much to the chagrin of both landlords and tenants.

The new darling of the commercial real estate market, retail is far from dead. As historic retailers fail to adjust to the new market and phase out, a host of new operators fill their void, offering fried chicken, coffee, falafel, and other new trendy offerings. Gym users are recovering from pandemic closures, and discount retailers continue to look for new opportunities to expand. The most desirable deals almost always feature drive-throughs. While some deals may fall apart due to difficulties with entitlements, a transaction with a drive-through almost always get done – to the delight of both landlords and tenants.

Not all market developments are positive. While many of us enjoy a day or two working from home, this shift has wreaked havoc for office owners and users. National occupancy rates only recently eclipsed 50%, but local metrics are far lower, especially in downtown financial districts. To get a deal done, landlords must often offer concessions previously unheard of in the office market, including early termination rights, contraction rights, and turnkey tenant improvements.This latter obligation translates into even greater difficulty for landlords, who must navigate supply chain issues to complete the improvements on the tenant’s schedule, even when necessary components may not be readily available. According to one source, we may not even know the full extent of how COVID affects office operations, as businesses are still evaluating how work-from-home will “normalize” going forward and therefore will only begin adjusting their occupancy needs over the next several years.