Trends in Real Estate Q1 2026

Beyond the individual sectors, the post-Covid era has also created a new division within existing real estate entities. The companies that were more financially driven are now beginning to show increased stress compared to those entities whose focus was always on value creation. Looking back, between 2012-2022, three quarters of the “financial” players’ returns were derived from cap rate compressions. In other words, their profits were less from operational improvements and more from higher sales values above their original purchase prices. This compression was almost solely due to their “drafting” behind the concurrent lowering of interest rates. Hands-on operators, such as Elmhurst, avoided the strategy of solely capitalizing on increased sales’ multiples, and were more committed to improving their assets by increasing revenues and implementing cost controls with the goal of long-term value creation.

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Office

Let’s begin with the most wounded sector. While other industries have moved on from Covid, office buildings remain impacted by some form of the “work-from-home” trend. Corporations have also deferred office space commitments due to their uncertainty with forecasting their future headcounts, and now with the additional wildcard of AI, the office sector remains standing along an even higher ledge.

Conversions of office buildings to residential remain slower than hoped, as they take time, money, and the ability to secure one of a limited number of suitable properties. To be a good candidate for conversion, the office building must have been built before air conditioning (1950s), when buildings had smaller floor plates that provided all the rooms with windows, as all apartments require natural light.

A ‘holy grail’ for troubled office owners is to satisfy tenants’ desire for flexibility by providing shorter lease terms and more versatile space options. Unfortunately, this potential differentiator is close to operationally impossible due to expensive ongoing retrofitting and lender hesitation without longer-term tenant commitments. In the interim, the current trend is office users leasing “slightly used” second generation space over a shorter time frame.

However, these challenging times have created a unique advantage for financially stable office owners. Some prospective office tenants are now demanding to analyze landlords’ balance sheets to ensure they avoid renting space in buildings with owners who may not be able to maintain the property and/or could lose control of it to their lender. Historically, it had been the landlord who was concerned about the tenant’s credit, not the other way around. Times and leverage have changed.

Office demand is not going away, but one could argue that the office sector is currently “under demolished.” Similar to what regional malls experienced this past decade, the top tier office markets (such as Midtown Manhattan) and the highest quality office buildings continue to prosper, but in the aggregate, the sector remains depressed.

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Data Centers

Unlike office, data centers are “hot” these days. There is clearly demand, but will this sector be the next example of the 19th Century railroads—successful, but not successful enough to absorb all the newly built supply? Time will tell. Furthermore, Musk’s Space X is proposing orbital data centers as they would 1) have natural cooling in space, 2) have perpetual energy with satellites following the sun 24/7, and 3) be able to transmit data directly to users without any infrastructure such as fiber optic cables. If anyone could pull this off, Musk is probably the person.

A potential “best of both worlds” strategy would be to convert obsolete office space to data centers. However, challenges with conversions include massive electric upgrades, added redundancies, and augmented cooling systems. These issues would not be insurmountable, but it would probably not be as efficient as just building a new facility from scratch.

Data centers’ insatiable demand for energy is also an ongoing topic of conversation. Communities across the country are terrified the centers will hog all the power, leading to increased electricity rates for the rest of us. Between data centers, electric vehicles, and every one of our household items now being plugged in, some experts feel the demand for electricity could exceed supply by as much as 50% in 2030.

Multiple data center operators are targeting Western Pennsylvania due to our abundant natural gas. They hope to attain the necessary power through locating the data centers next to existing generation plants. The ideal is for the centers to be self-sufficient by generating their own energy, which is called “behind the meter.” For data centers, it is less “location, location, location” and more “power, power, power.” 

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Industrial

Similar to data centers, access to electricity is a major “locational matrix,” especially with manufacturing facilities. In addition, sophisticated industrial tenants are using workforce modeling to ensure proposed locations have the necessary qualified employees. Higher-end parks have even provided office building-like amenities to help tenants recruit and retain employees at their facilities.

There’s also been a recent increase in acquisition activity of industrial buildings, possibly due to logistic companies desiring more long-term control at key locations by owning their own properties. Further trends also include AI becoming instrumental in logistical decisions for product movement.

Even as our country maintains some form of tariffs, manufacturers are hesitant to “re-shore,” as it takes years and hundreds of millions of dollars to move a plant back home. Furthermore, the new plant would still have higher operating costs. A good example is that a silicon chip still costs 50% less to manufacture in Taiwan than at the newly subsidized plant in Arizona. And then what happens if Washington reverses its policy? One potential benefit of a tariff though is that it could encourage US companies to construct their next plant domestically, rather than offshore.

AI is also slowly taking over on the factory floors as it integrates into all forms of autonomous packing and stocking robots as well as manufacturing machines. Will future industrial properties no longer require lights, bathrooms, and parking lots?

Finally, a major differentiator these days between the industrial and office sectors is that when office companies grow, they now look for more efficient space, but when warehouse and manufacturing companies grow, they look for more actual space.

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Travel

Shopping for air travel and hotel rooms may be, at least partially, outsourced to AI agents (AKA “personal shoppers”), which will instantaneously review every travel website, in real time, to secure the best deals. Even after the booking, the software can track the reservation and automatically re-book if the price drops.

Other general travel themes include an increase in once in a lifetime ‘events,’ such as the World Cup, Super Bowl, Wimbledon, and even solar eclipses. There appears to be almost no price limitation with some of these “experiences”. Other trends include combining adventure with relaxation, such as Canyon Ranch-style resorts, and “nanocations” (shorter trips), travel to “undiscovered” smaller towns, and, ready for this, “skip gen” travel—baby boomer grandparents and their grandchildren. Finally, overall high-end travel remains strong as affluent consumers desire top-rated experiences, even at sometimes unfathomable prices.

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Retail

AI agents can also act as personal shoppers in most scenarios by securing the best deal from every possible retail website. AI could therefore conceivably take out most traditional online shopping, as people will “let their agents do the shopping.” This trend could therefore even impact how retailers design their websites. Why create a “human friendly” website when only agents will visit it?
Brick and mortar stores can survive all of this if they leverage the customer experience and continue to focus on services that the virtual world can’t provide. Furthermore, service-based retail tenants have remained “HALO’s” as this past year they leased over 50% of the total retail space, up 10% from a decade ago. Within this service sector, the fastest growing subset is wellness, with such providers as spas, beauty, nutrition, and of course cannabis distributors.

The status of malls defines the Pareto principles. Of the roughly 900 remaining US malls, the top 100 account for 50% of the sector’s value, whereas the bottom 350 properties make up an anemic 10%.

Branch banking remains somewhat of an enigma. Most of us can’t recall the last time we visited a branch bank, yet every financial institution seems to be building them. JP Morgan Chase recently announced it will open 160 new US branches this year alone. Evidently, the visibility of a brick-and-mortar operation remains a critical link between lending institutions and their customers.

The ultimate retail entertainment districts these days are ballpark neighborhoods. The Atlanta Braves moved 10 miles out of downtown in 2017 to a community where the team’s owner created and “controlled” a district with new retail, apartments, and offices. The Pittsburgh Penguins developed its neighborhood next door to our hotel, with a Live Nation Concert Center and FNB’s corporate headquarters. The Dallas hockey and basketball franchises are looking to replicate this model as well. The Washington Commanders are moving the other way, from suburban Maryland back to the District, primarily because the city is providing them with development rights around the stadium. Sports franchises know their teams can be the anchor for large mixed-use projects, and therefore they want to control the development rights, and subsequently, the profits.

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Multifamily

Apartments remain a “darling” sector with investors and lenders. That is, as long as the current owners weren’t overly aggressive with their purchase price during the post-Covid low-interest rate boom. Demographics of renters are also playing a role going forward, as both immigration and the overall size of the 20- to 30-year-old population segment are on the downswing. Furthermore, with the recent rental increases, more younger adults are forced to share apartments, or heaven forbid, even move back in with their parents.

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Interest Rates

Real estate is a leveraged business, and therefore there were challenges during the 2023-2025 period of interest rate increases. With that said, even at the rate peak two years ago, interest rates still remained below the average of the past forty years. However, this recent period was even more impactful than previous times of rising rates. This time, the inflation that led to the rate increases was more isolated to supply chain costs, which benefited industrial properties, but few other real estate sectors. Therefore, many owners experienced higher interest rates without commensurate rent growth.

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Immigration Impact on Real Estate

In addition to agriculture and hospitality, real estate development has been the most impacted by immigration, as 30% of all construction workers are foreign born. Furthermore, real estate’s success derives from long-term economic expansion, which is a combination of increased productivity and population growth. The current challenge is the US requires over 280,000 new immigrants each year just to offset the country’s natural decline in its working age population. Finally, student housing could also be impacted by lower immigration, as 11% of all enrolled students at the 50 top universities are international.

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Capital Markets

More capital could potentially enter the real estate sector if Congress allows 401(k) plans to invest directly in commercial real estate. (Currently, one can only invest a 401(k) in public REITs). Furthermore, family offices are growing exponentially as an investor class in real estate. This is encouraging, as most family offices pursue longer-term wealth preservation, versus the private equity model that mostly seeks shorter-term opportunities.
An additional trend is with the impact on mortgages with recent technological advancements. Refinancing a home mortgage is becoming more efficient and therefore cheaper, as borrowers are refinancing in near real time when rates go down. The unintended consequence is mortgage bondholders are now requiring a slightly higher yield to offset this repayment risk, and thus conceivably offsetting some of those rate declines.

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Transaction Costs

Commercial real estate has always been burdened with high broker commissions. On a percentage basis, few other industries come close to these transaction expenses. Depending on the size, it is not uncommon to have 1) sellers paying as high as 5% of the full sales price, and/or 2) landlords paying, upfront, 6% of all the future lease payments. What is most disconcerting is that the brokerage industry has not evolved over the past half century, yet fees remain high. The question moving forward is whether AI will eat away at least a portion of these fees, as market research is being commoditized and the securing of prospective tenants and buyers could be partially accomplished through AI at only a portion of the cost. No question, personal relationships will always have value, but transactions may become more automated, and therefore less costly.

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Housing Affordability

Washington has now meandered into the housing affordability debate with such ideas as 1) 50-year mortgages, 2) Fannie Mae buying more bonds to lower rates, 3) allowing 401(k) to directly invest with home buyers’ down payments, and 4) eliminating the ability of Wall Street companies to purchase “homes for lease” (which in reality are a de minimis 1%). The real issue though is that without a sufficient new supply of homes, a “stronger buyer” with any or all of these new tools will only push home prices even higher. An axiom I learned many decades ago is that all things equal, lower interest rates help sellers, not buyers.

Returning to Wall Street companies owning “houses for rent,” the CEO of one of the big players, Amherst, recently stated that nearly 85% of their customers would not qualify for a mortgage. So, one could argue there is a role for these entities providing new liquidity into the market.
One major solution for affordability is to loosen local zoning laws. People may want more housing in their region, but rarely do they want it in their own neighborhood. So, if certain communities resist more supply, maybe they need a nudge. I don’t normally support government intervention, but I found it encouraging that a recent US Senate Bill proposed that the Federal Government consider withholding certain federal funding for capital improvements if a municipality falls behind national housing production levels.

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