Investors with an interest in Canadian commercial real estate, which had very solid fundamentals going into the Covid-19 pandemic shutdown and will likely benefit from a surge in pent-up economic demand on the backend, are paying close attention to the signals and temperature of various sectors in the commercial real estate market in Canada as events unfold. To this end, Marcus & Millichap Canada weighs in how the recent developments of the pandemic are affecting the CRE market at this time and where the market could be heading in the near-term.
With over 3 million people around the globe confirmed as infected, and more than 200,000 deaths in the span of a few months, the immense suffering and toll on human health due to the Covid-19 Pandemic is catastrophic. Although Canada has not been hit as hard as some Western countries, we have certainly not been spared. With approximately 50,000 confirmed cases and about 3,000 deaths, many people in our communities have been or had loved ones affected by this insidious disease.
The toll on the Canadian economy has also been quite severe. Disruptions in major shipping arteries and the implications of a side-lined China for the global economy had a swift and cutting initial impact on Canadian investments, evidenced in a selling panic that saw the TSX fall to its lowest level in more than a decade on March 23, 2020 – the stock market has since bounced back and stabilized to levels it was at in early March, but nowhere near its incredible peak in late February.
In mid-March, governments across Canada began shuttering schools, closing non-essential businesses, restricting travel and compelling Canadians to ‘shelter in place’ in order to slow the spread of the virus and prevent our healthcare systems from being completely overwhelmed. This drastic reduction of economic activity and the accompanying uncertainty caused the Bank of Canada to make the extraordinary move of omitting new economic projections in its quarterly Monetary Policy Report, in mid-April, preferring to limit its forecast to the short game:
In terms of a near-term forecast, the bank would only say that its “scenario analysis” indicates that real gross domestic product would be between 15 and 30 per cent lower in the second quarter (April through June) than it was in the fourth quarter of 2019, after an estimated decline of 1 to 3 per cent in the first quarter, on a quarter-over-quarter basis. – Globe and Mail
The incredible uncertainty in a suddenly declining Canadian economic environment has given real estate investors serious pause for consideration. To help address the many questions resulting from the crisis, on April 21, Marcus & Millichap Canada provided a comprehensive webinar, attended by over 2,000 audience members tuned into the Canadian commercial real estate investment market and hosted by some of our most senior executives and sector experts who weighed in on current market conditions and future expectations. Marcus & Millichap’s Chief Executive Officer, Hessam Nadji, with 34 years of experience in the industry, opened the session by summarizing the pain and pending recovery:
The exogenous shock, without a doubt, is creating a problem for commercial real estate, at a time when the industry’s fundamentals were in truly great shape, unlike every other expansion cycle that I’ve lived through, since 1986. We had not overbuilt commercial real estate, we had not over leveraged commercial real estate… It’s hard to imagine anything to kind of offset the depths and scale of what we’re experiencing right this minute, but it is important to know the combination of the healthy fundamentals leading to it and the extreme measures being taken will eventually make a difference. – Hessam Nadji, Marcus & Millichap CEO
Marcus & Millichap Vice President and Toronto Regional Manager, Mark Paterson, moderated the expert panel and started by providing some import frames of reference: the individual and colllective efforts of Canadians across the country have resulted in a flattening of the transmission curve for the virus.
Mark further demonstrated how over the last decade, the fundamentals that drive the Canadian CRE market have been strong and steadily growing going into the pandemic:
When we look at where we were with household income as a country, we couldn’t have been in a better position to help mitigate some of the fallback. Monthly retail sales up 43 percent. House hold income up 48 percent, over an 11 year climb, the entry point going into this was in a very positive position. – Mark Paterson, Marcus & Millichap VP and Regional Manager, Toronto
As severe as the health and economic shocks have been, government intervention has been no less dramatic. The Government of Canada has passed successive social aid packages through Parliament totaling over $200 billion in wage subsidies, direct payments to a swath of suddenly unemployed workers and rent subsidies for commercial tenants. The Bank of Canada has significantly lowered its key overnight rate to 0.25 percent and has provided another $200 billion in monetary stimulus by way of lending operations to financial institutions and the purchase of bonds from governments and companies to free up much needed liquidity. Provincial governments have enforced physical distancing measures, ramped up testing for the virus and deployed additional resources to long-term care homes that have been particularly hard-hit.
This historic level of government intervention to backstop the Canadian economy and our financial systems has helped to maintain a degree of confidence in Canada’s commercial real estate market, but all sectors have not been affected equally.
With 20 years of experience in the industry representing some of the largest retailers in Canada, Senior Managing Director, David Morris, articulated some of the most significant challenges faced by operators and investors in the retail sector at this time:
On the retail investment side, there’s a tremendous amount of what ifs to contemplate at the moment, a lot of which we took for granted prior to this all coming to fruition. Some examples would be, can I obtain financing? If so, what does the financing look like? Presumably it’s not going to look the same as it did two months ago. Simple things, like can I execute on my due diligence during my conditional period? Are consultants able to investigate a report? Travel restrictions, things we again took for granted, can we close? Law firms working from home, concerns with electronic signatures and so forth. So all that says there’s new hurdles, different hurdles that we’re working through, but we are working through them and deals are closing. – David Morris, Marcus & Millichap Senior Managing Director, Investments, Vancouver
These challenges notwithstanding, some areas of the retail sector such as grocery stores and grocery anchored outlets are doing very well in terms of volume, as consumers attempt to stockpile essential items. E-commerce, and the infrastructure to support it from delivery to logistics is also thriving as the major artery for retail purchasing during the shutdown.
With so many Canadians laid off by their employers and their incomes drastically reduced, despite massive government assistance, there has been a significant concern in the multifamily and retail sectors regarding rent collections. Marcus & Millichap Senior Managing Director, Aik Aliferis, with over 25 years of experience as one of the most influential multifamily investment brokers in Canada, weighed in on what he’s seeing on the ground, especially with government announcements across the country to ban evictions during the shutdown:
Once the landlords heard that through the media stream, you can imagine the panic that was felt throughout all the landlords across the country, frankly. But the results were not as bad as they were expected and that’s what I think is a very important element to discuss. This morning I got some stats from one of our clients that’s in all the sectors. So his occupancy remained virtually at 100 percent on the apartment side, with well into the mid-nineties of collections for April. His commercial sector was over 90 percent occupancy, saw only a 1.2 percent drop of his occupancy levels due to this period, and over 93 percent collection in his commercial portfolio. The retail portfolio was a little bit weaker on the collections, but again their occupancy level remained high and the collections were in the 85 percent range. These are really important stats because the result was much, much better than what was expected. Aik Aliferis, Marcus & Millichap Senior Managing Director, Investments, Toronto & Ottawa
Later in the webinar, Aik conveyed how many landlords are staying in greater contact with tenants, for example, through information portals so that issues can be quickly communicated and addressed, creating a sense of comfort and security for tenants in these very uncertain times.
From an operational standpoint, our Senior Managing Director in Edmonton, Bradley Gingerich, with over 20 years of industry experience and recognized as one of the top investment sales brokers in Western Canada, discussed how his office is pivoting away from shorter term investment areas, such as multifamily, to longer term opportunities in land investments:
Vendors and purchasers are all in the same position. They’re protecting their capital and they’re protecting their investors. We ourselves are adapting to add value and working with the groups and their long-term strategies. We’re not assuming what we do going into this will be the same coming out. Currently we focus our efforts on land. Land acquisition, building design, it’s a long process, and within this time, these groups can devote the time required for entitlement and design… I think in today’s climate there’s just a few too many unknowns relating to due diligence on the [multifamily] buildings and until some of those are worked out, efforts are better spent on land. – Bradley Gingerich, Marcus & Millichap Senior Managing Director, Investments, Edmonton
There was consensus from the panelists that price corrections were not materializing and cap rates were not adjusting at this point, however, if the shutdown is prolonged there would likely be downward pressure on pricing in most asset classes. Financing is still available from tier one lenders, but the chartered banks are being more selective in their approval process, and second and third tier lenders are stepping back. Buyers are still hungry for deals on the properties that they really want, but as Aik quipped, “no one has a crystal ball.”
In the closing segment, Hessam addressed the notion of a possible “distress wave” of loan defaults and delinquencies on the backend of the pandemic shutdown. He stated that there is likely to continue to be strong government support for financial institutions around the globe, unlike during the financial meltdown of 08/09, making it highly unlikely that there will be a “massive distressed fire sale” when the economy starts to reopen.
To wrap things up, Mark concluded that Canadians all across the country are doing their part to flatten the curve and slow the spread of the virus, which is succeeding. We came into this situation with 11 years of growth and although things might seem grim right now, we will make it through this and there will be great opportunities on the other end:
I know I speak for all of us when I say we’re here to help you navigate through these waters whether you’re an investor looking to buy, sell, hold or just trying to understand what’s happening in a such a fluid situation. Whatever strategy you’re looking to implement, whether it be long term, short term… reach out. We’ve always been there for our clients. We’ll continue to do so in the upcoming weeks, months and years ahead. – Mark Paterson, Marcus & Millichap VP and Regional Manager, Toronto
There is currently a link at the top of the homepage on this site where the contents of webinar featuring our panel of experts in Canadian commercial real estate can be viewed in its entirety. For further inquiries about your specific commercial real estate investment needs, please contact us at Marcus & Millichap Canada.
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