By Paul Bubny

Over the next year, COVID-19 will lead to a 7% decline in the number of transactions and a 16% decline in total dollar volume transacted, when compared with 2019 numbers, says Reonomy. The COVID-19 impact will push commercial property transaction activity back to levels not seen since 2015 for transaction count and 2012 for transaction volume. These estimates suggest that COVID-19 will cost the commercial property market 25,000 transactions and $100 billion in deal volume.

At the property level, Reonomy says gauging the impact of COVID-19 on private commercial property markets is a two-part challenge that requires estimating the near-term impact from the virus and virus-related containment efforts, and then estimating the longer-term impact from any economic fallout that follows. Connect Media spoke with market analyst Omar Eltorai for further insights.

Q: Is this valuation method essentially the same model that is normally used, with the key difference being that you have to weigh a lot that isn’t easy to predict?

A: When you’re looking at a property, you’re looking at performance and then you can also look at valuation. How the property performs affects the valuation, and the near term of impact of COVID is going to strain property performance. You’ll see that through tenant turnover, closing or potentially missed payments. That changes the valuation because it changes the cash flows that are associated with that property.

As performance deteriorates, there’s increased perceived risk associated with that property. In financial markets, risks is frequently captured by uncertainty, and we are living in uncertain times.

Q: When valuing a property, the characteristics of the property are considerd along with the health of the sector. Will making assessments in the current environment become even more dependent than usual on looking at the individual property?

A: Absolutely. Even though times are changing very quickly, there are still some underlying truths. Commercial real estate is filled with idiosyncratic risks, property-specific risks, so making broad statements may be easy to do, but it’s often inaccurate.

Q: Brokers and other deal participants may draw on past downturns as a frame of reference. This one is unusual in the way it came about. Can people nonetheless look at, say, the 2008 recession as a guide to what will happen to values?

A: It’s always important to acknowledge the past and be a student of history. That said, in looking at past recessions you have to remember that the next recession is not going to be the same. It’s better than nothing; if you’re looking at a recession and not looking at the drivers of that recession, it’s better than no point of comparison. You’re still looking at a period of time when the people who would transact in that market were experiencing greater levels of uncertainty.

That being said, it’s important to remember that the global financial crisis was very much a banking crisis. A banking crisis is different from what we’re in right now, which is a health crisis—a health crisis that has virtually stopped an economy that we were very familiar with a couple of months ago. There’s been nothing like it in living memory.

Q: Do you think now is a good time to go back to basics in terms of determining how to formulate some of these assumptions?

A: I certainly do. There will always be first-order and second-order impacts, but whenever you’re in a new situation, getting beyond the second order can be difficult to capture. Yet, making sure you get the right first-order impact is critically important.

As an investor, you need to look at what incentives are important to you. If you’re looking for returns, make sure the property is at an appropriate price and earns sufficient income to not only pay its own expenses but also pay back the investor. If the property can’t collect that in rent or lease payments, then expectations will change and the pricing will adjust.

For comments, questions or concerns, please contact Paul Bubny