Following publication of its 2024 Credit Outlook: Real Estate report, S&P Global Ratings’ credit analyst, Ana Lai CFA comments on the the U.S. real estate sector where ratings remain under pressure as ‘higher-for-longer’ interest rates and a restrictive bank lending environment impair credit metrics and limit capital sources. 

S&P Global Ratings expect conditions in North America to remain challenging in 2024, given our forecast for slower economic growth and tight financing conditions in the recently published 2024 Credit Outlook: Real Estate report which examines the Real Estate sector’s credit quality risks and opportunities as we enter 2024. The report spans across the United States, Europe, APAC, Latin America and other regions.

The U.S. office sector is under intense pressure given a slow return to office, tighter access to capital, and a sharp increase in funding costs.

As a result, the credit quality of many office REITs has deteriorated significantly. Currently, about 40 per cent of the rated office REITs are speculative grade compared to 20% for the broader rated REITs portfolio. We expect rating pressure to persist in 2024 given that about 55 per cent of ratings on the office sector are on negative outlook.

2024 Credit Outlook: Real Estate
Heightened Refinancing Risk Pressures Credit Quality

• [U.S.] 2024 key assumptions:
  • Significantly higher financing costs
    • Although the 10-year Treasury yield is only about 50 basis points (bps) higher than it was one year ago, many REIT bond spreads have widened materially year over year. Moreover, tighter bank lending (with tougher underwriting) is contributing to significantly higher yields on secured debt as well.
  • Tighter access to capital and limited ability to monetize assets
    • The capital markets have been less accessible since the bankruptcy of SVB Financial Group in March 2023, and banks are generally trying to reduce exposure to commercial real estate (CRE). Real estate transaction volume remains low and limited price discovery is constraining asset sales.
  • Slowing revenue growth
    • While the U.S. economy may have averted a recession, S&P Global economists project slow economic growth for the next several years. Except for industrial REITs (which have rents that are well below market) and senior housing-focused REITs (which are benefiting from a sharp recovery from a pandemic-induced trough), we expect low-single-digit revenue growth for most of our rated REITs.
• [U.S.] Key risks:
  • Growing refinancing risk
    • Higher-for-longer interest rates and weaker fundamentals will continue to pressure asset values, increasing refinancing risk across all property types.
  • Further erosion of credit metrics if rates stay higher for longer than expected
    • If interest rates stay elevated or move even higher, the already stressed market for refinancing would certainly worsen and thwart any plans borrowers may have to simply wait conditions out by extending their loans.
  • Resilient demand for housing and industrial assets
    • Worsening housing affordability and undersupply of housing supports demand for rental housing, albeit at a slower rent-growth pace. Mark-to-market opportunity on upcoming lease expirations for industrial assets will support strong rental growth amid healthy demand.

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