The bottom is in sight for commercial real estate valuations, though there’s probably more room for office values to continue their decline.

That was one of the insights provided by Altus Group director of valuation advisory Robert Santilli during a July 11 webinar to discuss the results of the company’s second-quarter survey of Canadian industry professionals on market sentiment, conditions and issues impacting commercial real estate.

Altus Group recently released the results of the Q2 survey, which was conducted between March 25 and April 29 and received 333 responses from employees of 48 firms. 

Santilli provided perspectives on where the industry is putting its current focus, forward-looking transaction plans and property type performance during the presentation.

Managing existing portfolios will remain a focus

The survey showed managing existing portfolios and exposures will be the primary focus of 50 per cent of respondents over the next six months. That was followed by:

• deploying capital at 18 per cent;
• raising capital and fundraising at 15 per cent;
• de-risking portfolios and divesting at 10 per cent;
• and pausing to re-assess at seven per cent.

“As cap rates have moved higher, getting the most out of your property, driving NOI (net operating income), lowering expenses and getting creative has become imperative,” Santilli said.

The Bank of Canada’s June 5 announcement to reduce its overnight interest rate from five to 4.75 per cent was expected and another cut is expected before the end of the year. 

“This is going to spur more deal activity, and certainly there are some groups that want to get in and ride another cap-rate cycle lower,” Santilli said. “So I think many institutions have already started to move back into acquisition mode.” 

Santilli expects to see more transaction activity from institutions in the coming quarters as bid-ask spreads close and prices stabilize.

“Currently, they're churning their portfolios, reducing exposure to office -- or trying to reduce exposure to office -- and then taking advantage of opportunities to high-grade their portfolios,” Santilli said.

While the market hasn't seen a surge in distress sales, concern exists that upcoming debt maturities could lead to more. That would negatively impact valuations, while loan defaults would also tighten the availability of credit, according to Santilli.

Office market is still lagging

While Santilli noted Calgary's office market fundamentals are improving and valuations are rising there after a decade of challenges, the survey showed office is expected to be the worst-performing property type overall in Canada over the next 12 months.

“Going forward, I would expect that any value declines for office are going to be more situational, asset-specific and show a separation between strong assets and struggling assets,” Santilli observed.

Altus Group’s recent quarterly investment trends survey showed suburban class-A and downtown class-B office buildings are the least attractive to investors. There was also negative sentiment about downtown class-A office properties, but there was more balance in terms of groups that would be buyers versus sellers.

Other asset classes and property types

Santilli said there are still buyers for other asset classes and they have tighter bid-ask spreads than office.

“Fundamentals are mostly still favourable to owners,” he said. “However, there are some pending transactions that, if they go through, could point to a little bit more cap rate expansion.”

Grocery-anchored retail ranked as the most sought-after property type in Altus Group’s most recent quarterly investment trends survey, followed by single-tenant industrial, multi-tenant industrial and multifamily.

“Sentiment for tier-one retail malls moved from negative territory to positive territory in Q2, which I think speaks to the broader retail recovery story,” Santilli said. “I think while res and industrial get a lot of focus, good retail should continue to perform well.”

Altus Group has had a growing number of conversations with groups interested in getting into the student housing market, which isn’t widely institutionalized in Canada.

Self-storage facilities and hotels are also moving up in terms of investor preference, according to Santilli.

Artificial intelligence will have a major impact

Santilli believes artificial intelligence (AI) is going to be revolutionary in its impact on society, including the commercial real estate industry, and that companies must invest in it to stay competitive.

“Within the real estate space, data centres and the infrastructure to support data centres are attracting a lot of interest as AI advances. It's certainly going to transform some industries.”