Fitch Ratings has downgraded its outlook for the real estate investment trust (REIT) sector, pushing the segment’s status down from “neutral” to “deteriorating.”
The new outlook, according to Fitch, reflects ongoing tightening of lending conditions within commercial real estate. The commercial realm has been battered by one headwind after another, with national banking stress compounding the persistent strain weighing on the market due to elevated interest rates and macroeconomic volatility.
REITs are unlikely to encounter a “meaningful” amount of direct stress from the recent spate of regional bank shutdowns, Fitch reported. The credit-ratings agency doesn’t anticipate any new obstacles for REIT access to unsecured revolving credit, but it did note that some banks have “reduced appetites for traditional bank syndicate activities, such as making funded term loans.”
Still, bank lending (which accounts for approximately half of the commercial mortgage market) fell by 20% between February and April, according to the Federal Reserve’s May 2023 senior loan officer survey. Additionally, Fitch still expects a recession to occur sometime this year, bringing a conclusive end to what Fitch called the “generally favorable operating environment during the post-pandemic rebound in 2022 and 2021.” Fitch now expects a recession to occur in late 2023, revising its previous forecast of a midyear downturn.
The “deteriorating” designation sounds daunting, but a statement from Fitch noted that “most Fitch-rated REITs have the capacity to withstand such a slowdown within rating sensitivities.” The trusts with a sufficient amount of dry powder, the company added, may be well positioned to pounce on distressed asset sales by less capitalized entities down the line.
Fitch also noted that stronger property types, such as industrial and shopping centers, have thus far outperformed the expectations the company laid out in its 2023 outlook released this past December. But “struggles are mounting” for weaker sectors, Fitch reported. Performance by property type will likely continue to see a large variance over the next two years. Even the segments with strong fundamentals will likely see some cooling in demand as tenants delay leasing decisions and show increased reluctance to lease more space, the company added.
