The headwinds of high rates include elevated funding costs, less market liquidity, and lower property valuations, Moody’s said.
While an expected decline in interest rates later this year would likely spur an increase in transaction activity, the report noted that “asset values could decline further if a softening economy were to dampen real estate demand.”
As asset values weaken, this could lead to tighter lending conditions, with banks seeking to further reduce their exposure to commercial real estate, particularly in regions such as the U.S.
“We expect certain property types and regions to demonstrate greater resilience, but still see risk that credit conditions for commercial real estate firms will further erode,” the report said.
Moody’s forecasts that aggregate rental income will grow by 1% to 3% over the next 12-18 months, but that this will not be enough to offset the negative impact of high interest rates on the sector.
“While rates will likely decline this year, they will remain well above historical levels. Therefore, higher funding costs will continue to weigh on earnings as companies refinance lower-priced debt and seek to execute growth initiatives,” the report said.
At the same time, a slowing economy will pressure operating income growth over the next 12-18 months, it noted, and operating expenses “will remain high, which will weigh on margins as demand slows.”