Virtually all real estate markets were affected by the COVID-19 pandemic in some way, but urban markets have been hit harder, especially primary markets, such as New York City, Chicago, San Francisco, and Los Angeles. These areas were impacted by the social policies created to stop the spreading of the virus, which stripped away the features that made them attractive to live, work and play.
While contemplating real estate investments in these areas, it could be prudent for investors to analyze what the short-, medium-, and long-term futures are for these markets to inform their investing strategies. In the short term, there may be struggles before these markets begin to recover, while the long-term prospects for big cities appears to be strong based on past performance. Using recent and historical data, it may be possible to understand how hard-hit urban markets could fare.
In the Short Term
A recovery in large cities that were impacted by COVID-19 may not occur quickly as the outbreak accelerated migration trends away from them. Prior to the pandemic, businesses and people were leaving high-cost areas in search of more affordable locations, with most going specifically to Sun Belt states. In addition, millennials began moving from downtowns to suburbs for more spacious homes to start families.
Then the pandemic occurred and allowed more people to work remotely, which untethered them from living near their workplaces. Offices sat mostly empty in many big cities. Additionally, the virus disrupted one of the main drivers for city living, which is access to dining, nightlife and entertainment, impacting the retail sectors of major cities.
For the entire year, New York City lost 9,200 apartment units in net absorption, and L.A. lost 800 net units, while Chicago absorbed just a net of 200 units, according to CBRE’s fourth quarter 2020 multifamily report. New York City’s density and heavy reliance on public transportation may have played a role against it during the pandemic. Meanwhile, Houston, Atlanta and Dallas lead the way with 12,400 units, 11,200 units, and 9,600 units net absorbed, respectively.
The loss of demand in prime urban markets made rents drop drastically in those areas from June 2020 rents and they have yet to recover, according to Zumper’s March 2021 national rent report. Investment in these markets initially fell in most real estate assets classes as well. New York City investment volume fell 50% to $22.1 billion, the lowest total since 2010, according to GlobeSt. The news website indicated investment volumes in Brooklyn and Queens fell at more modest rates than Manhattan.
While rents have declined in big cities, there are people who will look to take advantage to relocate there or renew their leases because areas like San Francisco or New York City still offer tremendous opportunities in various industries. And some real estate developers are looking at the financial fallout as an opportunity, even though price dislocations have yet to appear in earnest.
CBRE’s multifamily report indicated urban markets will start to experience strong recoveries when office workers return, and when amenities “flourish,” which could begin in the fall of 2021. While it is possible that a recovery may commence in the short term, it’s also possible that markets will need more time past 2021 to fully recover. The economies of many cities, and the country, are still being propped up with stimulus funds and it’s too early to know what the effects will be when the relief aid ends.
In the Medium Term
Many factors could affect real estate investing in big cities over the next few years. The one that is top of mind is whether or not the COVID-19 virus will still be impeding everyday life or whether the virus will be completely tamed by vaccines and social distancing policies.
Commercial real estate investment could perform well if society returns to business as usual.
But even after a majority of offices, hotels and retailers begin reopening, it may be a little while before consumers and workers feel comfortable again to return, however, based on studies of various industries, it is likely that they will be back.
In New York City, only 15% of Manhattan office employees were estimated to have returned by the end of 2020, according to a survey by the Partnership for New York City. The survey indicated that 48% of employees expected to return to the office by July, and that 39% of those who return expect to work remotely at least 50% of the time. The biggest factor inhibiting a return to offices is the status of COVID-19, as 87% of employees cited the virus as their primary concern.
New York City, as well as other cities, will find it difficult to return to normal without a resurgence in the retail sector. New York City’s retail workforce fell from 344,600 at the end of 2019 to 245,000 by April 2020, according to a recent report by the Office of the New York State Comptroller. It then bounced back to 309,000 in October as essential stores, like groceries and pharmacies, and retailers that aren’t brick-and-mortar (including online shopping), have seen growth during the pandemic. But other types of retailers, like clothing stores, have seen decreases and are expected to take longer to recover. That poses a problem for the recovery of big cities, as having vibrant retail stores adds to the attractiveness of living and working in an urban atmosphere. The report indicates that policies and federal funding, such as the Paycheck Protection Program, can support retail businesses to stay open and keep workers employed.
Hotels were also particularly hit hard in big cities by the virus. Travel for business and leisure sank, and as a result, hotels were left mostly vacant, and eventually many shuttered and some transformed into other uses. New York City’s hotel market, which had strong occupancy rates prior to the pandemic, was devastated and about 40,000 rooms have gone offline since the start of the pandemic, according to a recent market analysis by the New York City Department of City Planning. The market report reveals that industry analysts project New York City tourism sector and hotel demand will not fully recover until 2025.
Besides the time it may take for certain industries to recover, another potential factor that could affect investing in real estate in big cities could be rising inflation. There are indications that a rise in inflation could be coming, and a moderate rise in inflation could be beneficial for the economy, as it may lead to more spending, which can boost businesses and create jobs, possibly leading to economic growth. Additionally, real estate can act as a hedge against inflation.
Over the Long Haul
It’s impossible to know what the long-term outcome will be for big cities, as no one has a crystal ball. However, seismic economic shifts during times of uncertainty in primary cities have occurred in the past, and therefore, looking at history may reveal the potential eventualities. And history is on the side of large cities, as after disasters, people have always returned to urban life.
As an example, New York City has always bounced back in the long term. Even after the last black swan calamity — 9/11. There was a fear that skyscrapers could be targets for future terror attacks and many New Yorkers were hesitant and unwilling to work in them again. That was felt not just in New York City, but other cities with very tall buildings, including Chicago, where there were higher vacancy rates for taller buildings after the terror attacks. But that fear eventually dissipated throughout the country and, in fact, more office skyscrapers were built and residential buildings have been built taller than ever before. After 9/11 and the dot-com bubble, New York City’s unemployment rate climbed to a high of 8.5% in January 2003, then it steadily fell until it hit a low of 4.6% during the fourth quarter of 2007, according to historical data from the New York State Department of Labor.
During the Great Recession, New York City’s unemployment rate spiked to a high of 10.1% in October 2009. The unemployment rate stayed above 8% until March 2014, and then it made a steady recovery until it hit a remarkably low 3.4% in February 2020, just before the start of the pandemic in the United States.
As previously mentioned, the COVID-19-driven recession affected major urban cities much more drastically than other areas. New York City’s unemployment rate reached a high of 20.3% in June 2020. A majority of jobs were lost due to the closures of certain industries, including retail, entertainment, and hospitality. Despite the continued closures and limitations, the city’s unemployment rate has since fallen to 11.4% in December, which is the latest month for which data is available. It’s a sign that the economy is past its bottom and improving, although it still has a long way to go.
Based on the patterns from recent recessions, a full recovery may take several years, but as the economies of big cities recover, so will demand to invest in those cities once again.