There are increasing concerns that a crisis is brewing in commercial real estate (CRE), as over the next couple of years, $2 trillion in CRE loans will need to be refinanced. Previously, there were hopes that macro conditions would soften, leading to lower rates and a more favorable lending environment. Instead, inflation has proven to be more resilient than expected, and expectations of Fed dovishness have been dialed back.

In addition to high rates, major challenges include decreasing demand for offices and rising vacancies, a stricter lending environment, and balance sheet woes at regional banks, which traditionally account for a large share of CRE lending. However, there is significant variance within the CRE market. Areas like data centers, hotels, and industrial buildings continue to show strength, while retail and multifamily exhibit more mixed performance.

If conditions worsen, there is a risk of spillover effects on the broader economy, including decreased lending activity due to losses at banks, lower tax revenue for local governments due to more vacancies and lower property values, and subsequent declines in hiring. However, the consensus continues to be that there won’t be a full-blown crisis as the sector is sufficiently diversified and continues to have strong credit performance despite adverse conditions.

Finsum: Investors should pay attention to the CRE market given the refinancing cliff and challenges posed by higher rates and a stricter lending environment.