Nareit’s office REIT index produced a negative return of 37% over the past year. That could mean a buying opportunity.
The office real estate market has collapsed in the last three years.
First the covid pandemic kept workers at home. Then, even as the pandemic has subsided, many employees are still not returning to the office full time.
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The office occupancy rate in 10 major cities tracked by real estate security provider Kastle Systems averaged just 50.1% in the week ending February 22. Certainly, with workers returning to their offices, that’s the first reading above 50% since the pandemic began in March 2020. But it’s just 50.4% of pre-pandemic levels
Office building owners are starting to take some serious hits. Much of your debt has floating interest rates. With the Federal Reserve raising rates by 4.5 percentage points over the past year, your debt payments are skyrocketing.
Even homeowners who are paying low fixed rates on debt they accumulated before the Federal Reserve rate hikes are affected. As your old debt matures, your new debt has much higher rates.
The delinquency rate of commercial mortgage securities made up of office loans totaled 1.83% in January, 25 basis points more than in December. That is the largest increase since December 2021, according to treppa real estate research company.
Lauded asset manager Pacific Investment Management Co. recently defaulted on $1.7 billion of office construction debt. Another major investor, Brookfield Asset Management, has defaulted on more than $750 million in debt for two Los Angeles skyscrapers.
All of these weaknesses have affected office REITs. The Nareit Office REIT Index has returned a negative 37% over the past year. But that dip may have gone too far, creating a buying opportunity.
This is Morningstar’s assessment of two of the largest office REITs.
boston properties
(BXP) – Get a free report
Morningstar analyst Suryansh Sharma does not assign the company a moat (durable competitive advantage), but puts the fair value of the shares at $107. It recently traded at $65.65.
The firm owns Class A office properties concentrated in Boston, Los Angeles, New York City, San Francisco, Seattle, and Washington, D.C.
“The company’s strategy is to develop and own prime properties…in supply-constrained markets that have the highest economic growth and investment characteristics for office real estate,” Sharma said.
One specific strength: “The company has positioned itself to benefit from the booming life sciences industry, owning approximately 4.6 million square feet of life sciences space,” he said.
Kilroy Real Estate
(KRC) – Get a free report
Sharma does not give the company a moat, but puts the fair value of the shares at $69. It recently traded at $36.70.
Kilroy owns premier office, life sciences, and mixed-use properties in Los Angeles, San Diego, the San Francisco Bay Area, Seattle, and Austin.
Kilroy is also positioned to benefit from growth in life sciences, as it has “significant exposure (to the sector) in its current portfolio and in its future development pipeline,” Sharma said.
“We also appreciate management’s focus on ESG (environmental/social/government) as it aligns its portfolio of offices to meet its clients’ sustainability requirements.”
The firm “reported a decent set of numbers in the fourth quarter amid a very challenging West Coast office environment,” Sharma said.
