Not All Properties Equally Vulnerable To Pandemic, Report Says

Things are moving quickly these days, and predicting the future during the coronavirus crisis can be tricky. What looked far-fetched on Monday can become a reality by Thursday, Friday at the latest.

For private investors and REITs, there is no overall message when it comes to investing in commercial real estate these days. With the coronavirus, not all properties can be treated equally.

“The full impact on the economy — that’s still the big question,” DBRS Morningstar Real Estate Vice President Chris Wimmer said. “What we’ve found is the risk is simply greater for different types of properties.”

A new DBRS Morningside report on the impact of the pandemic on Canadian and U.S. REITs and CRE echoes this mixed message.

“For example, hotels, recreational properties, and certain retail properties will, in the near term, experience significant stress,” the report reads.

“On the other hand, retailers of consumer necessities, e-commerce warehouses, and long-term-care (LTC) properties are highly-sensitive to the coronavirus but should emerge relatively unscathed.”

For retailers, the difference is day and night. As the report notes, necessity-based retail (grocery stores/drugstore-anchored retail) is viewed as relatively insensitive to the negative impact of the coronavirus.

“We anticipate that real estate companies with a large proportion of exposure to necessity-based retailers will fare relatively well,” the report says.

Not so for more discretionary retail like fashion, electronics or entertainment. This investment sector “will likely be more sensitive to outbreaks of the coronavirus given the non-essential nature of the retailers’ products.”

If stores and malls are closed, it isn’t like anyone can buy anything anyway, discretionary or otherwise.

“It [discretionary sector] is being caught up in this shelter-in-place situation. When you tell people you can’t go to the mall, people pay attention,” Wimmer said.

The report reflects this sentiment.

“Real estate entities with significant exposure to discretionary retailers will likely experience greater volatility in rental revenue depending on the length of the coronavirus pandemic,” it reads.

Wimmer noted that retail was already under significant stress before the pandemic. “The sector was grappling with transitional problems before all this happened to do with e-commerce. The [virus] really doubled down on its problems.”

Still, retail isn’t as bad off as the lodging sector, which is dealing with record low occupancy, if not a total shutdown.

“We see hotels as being on the front lines of the global war on the coronavirus and thus highly exposed to reduced demand for lodging as a result of social distancing and increasing travel restrictions,” the report says.

“This is already being reflected in important hotel industry operational metrics, with occupancy and revenue per available room down 7.3% and 11.6% year over year, respectively.”

Of course, the hotel industry doesn’t need a pandemic to be considered volatile, investment-wise or not. As Wimmer pointed out, while five-, six- or seven-year leases for malls and warehouses bring relative stability to a property, “with a hotel, the average lease is a day-and-a-half,” he said.

So what’s the good news for investors? Where are the safe places in this new world order? Pretty much where it always lies: residential.

“Of the major sectors, the residential sector, primarily multifamily apartments and single-family rentals in the REIT space, is the least likely to sustain a meaningful negative impact from the coronavirus,” the report says.

Parts of the industrial sector are also going to be OK long-term, including “those that cater to logistics and e-commerce, which have low susceptibility to societal reaction against the virus.”

The pandemic may actually end up hastening the move online as consumers cope with self-isolation. “E-commerce, in particular, will benefit as items that would have otherwise been purchased in physical stores are instead ordered online for delivery,” the report says.

Overall, DBRS Morningside concludes that the effects of the pandemic, depending on how long it lasts, will be mitigated by a previously strong economy and a commercial real estate sector that was doing well to begin with.

“Prior to the onset of the coronavirus, commercial real estate had been experiencing healthy fundamentals in North America, with exceptions in certain sectors, supported by a heretofore solid economy,” the report says.