A Moody’s Analytics commercial real estate report found that as of Q2 2022, there is a 40% chance that a recession could happen within the next year, up by 7 percentage points since the end of Q1 2022.

Moody’s Head of CRE Economics Victor Calanog said that while raising interest rates would help cool price increases, if the rise is too quick, it could halt economic activity, thereby increasing the likelihood of a recession.

“Both monetary and fiscal policies need to be well-coordinated to make sure economic activity can proceed at a sustainable pace,” Calanog said. “If we dampen demand too much, that creates a recession, but if we encourage activity too much, then we have inflation.”

Moody’s Analytics' latest report shows the performance of commercial real estate asset classes in Q2 2022 and analyzes the impact the economy has had on the industry.

He said that during Q2 2022, multifamily fared the strongest among CRE asset classes. While the pandemic caused a dip in rental activity, the market bounced back in 2021 and demand remains strong.

“The pandemic boosted the demand for certain types of housing because a lot of people realized that while co-living is great for economizing, more space would be useful during a pandemic, which requires social distancing,” Calanog said. “As a result, there has been a desire for generally more space, with rent growth happening simultaneously.”

The report indicates that while the performance of the multifamily market usually coincides with the office sector, in Q2 2022, office vacancy increased steadily, rising to an 18.4% vacancy rate, up by 0.3% from Q4 2021.

Calanog said the trend of hybrid work and people’s general safety concerns as a result of the pandemic may have played a role in why offices in some markets struggle to find occupants.

“If physical occupancy in certain markets hasn’t returned, many employers may think ‘if we need to cut costs and my lease is ending soon, maybe it’s best to shed a high percentage of space,'” Calanog said.

Retail is another sector that could contend with high vacancy rates. Moody’s predicts that retail vacancy rates will continue to rise for the next half decade, as consumers continue to pivot to e-commerce. Due to the wide breadth of e-commerce solutions, shoppers may be more intentional about where — and how — they shop for particular goods.

“Community shopping centers, anchored by essential services such as groceries or pharmacies generally will remain stable because their services haven’t stopped since the pandemic, and they often serve parts of the country that don’t encounter a lot of traffic,” Calanog said. “However, if people need items that require going to a mall and don’t mind waiting a day or two for delivery, they may consider sourcing the internet for the best price.”

Additionally, regardless of whether retailers have physical locations or online shops, they still need warehouse space. To expedite deliveries, retailers have embraced using facilities that can send items directly to customers or subleasing warehouse space, Calanog said.

“E-commerce is a boon for logistics and industrial space,” he said. “Because we’re seeing a strong demand for housing as well as more e-commerce purchases, it creates the need for warehouses closer to customer bases.”

Moody’s Analytics' report showed that if economic activity, including CRE, slows down substantially, a recession will occur. Calanog said that currently, while the U.S. economy is expected to show signs of improving health, the GDP is only expected to increase by about 0.02%, which poses a concern for economists.

“Because of how thin the margin has grown, it wouldn’t take much to put us into a recession,” he said. “Looking at the next 18 months or so, the 33%-40% chance rises to about 50%.”

He added that whether or not the U.S. is in a recession is ultimately based on behavior patterns — when people and businesses make decisions to cut down on spending. However, while people are spending less than they used to, they are still shopping, which would help keep the economy in the clear.

“Sentiments may be negative, but behavior currently still suggests that we’re not in a recession for now,” Calanog said.

This article was produced in collaboration between Studio B and Moody's Analytics. Bisnow news staff was not involved in the production of this content.

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