While office REITs largely made it through the bulk of the pandemic unscathed , as tenants continue to pay rent and retain their space for an eventual return to the office , the prolonged workfrom-home environment means that the decisions around the need for physical occupancy will dictate the long-term health of the sector as companies begin to reassess their space needs . Concurrently , the fall in effective office rents might entice companies without a physical footprint to lease space . Nonetheless , office and retail are both expected to have declining effective rent growth of 5.9 percent and 6.8 percent , respectively , this year . These sectors are not projected to experience rent growth that would be indicative of a positive outlook until 2023 .
Expected Effective Rent Returns by Sector
Year Apartment Office Retail
Warehouse / Distribution
Flex / R & D 2021 2.1 % -5.9 % -6.8 % 3.0 % 0.6 % 2022 3.3 % 0.4 % 0.0 % 3.3 % 2.3 % 2023 3.3 % 1.9 % 1.9 % 3.2 % 3.0 % 2024 3.1 % 2.3 % 1.7 % 3.4 % 3.1 % 2025 3.1 % 2.5 % 1.8 % 2.8 % 3.1 % Source : Moody ’ s Analytics
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REIT cap rates in the core four sectors have trended downward since peaking after the Great Recession in 2010 . Since 2020 , however , sector cap rates have diverged . Residential and industrial continue to trend slightly downward , with office cap rates seeing a slight increase , and retail ’ s cap rate trending sharply upward . Moody ’ s Investors Service predicts an increase of 30 basis points and 100 basis points in 2021 from 2020 in the sluggish office and retail markets , respectively , with asset values in these sectors likely to weaken . The potential for office sector operating income and value declines in certain central business districts that have experienced worker exodus will also lead to increased cap rates . Residential and industrial cap rates are likely to remain largely unaffected as they have managed to maintain values throughout the pandemic and are seeing upticks in value .
The liquidity profile of REITs remains positive as investment-grade REITs , whose high-quality property portfolios are largely unfettered by debt , are able to readily react to changing market conditions . Some REITs might also look to sell assets as an option to maintain liquidity . The tax benefits of REITs continue to be a lucrative attraction to investors . As long as these incentives remain in place ( they are expected to remain unchanged during the current administration ), REITs will still attract a healthy level of investment , particularly in sectors that are experiencing growth — for example , data centers and logistics / industrial . Although the outlook for office and retail REITs in the near term is cautious , the forecasted rent growth of about 2 percent to 3 percent that all sectors will achieve within the next five years indicates that REITs will remain an excellent investment option in the long term . It is important to keep in mind that the current discussion on REITs is unavoidably very nuanced due to the ongoing uncertainty as we slowly begin to emerge from the pandemic .
Ermengarde Jabir , Ph . D . Economist with Moody ’ s Analytics Reis
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