The Impact of War on Commercial Real Estate
By Adam Gower Ph.D.
There has been very little research conducted into the impact of war on commercial real estate—but that shouldn’t lead anyone to believe there is no correlation. Indeed, there are some very evident impacts of war on commercial real estate. We elaborate below.
One of the reasons it is so difficult to find information about the impact of war on commercial real estate is that the popular definition of war has changed over time. Traditionally, the term war has conjured images of hand-to-hand combat and brute military force. As technology evolves, however, the spectrum of “war” has grown wider. Now, we have to be as equally concerned, if not more so, about cyber attacks than we do physical attacks.
The Impact of “Traditional” War on Commercial Real Estate
Let’s start by reflecting upon the impact of large-scale international war on commercial real estate. These conflicts include World War I, World War II, the Vietnam War and the like. Each of these conflicts had significant impacts on commercial real estate.
Historically, wars such as these required a shift in economic production. Rather than investing in traditional goods and services, the American economy ramped up production of wartime supplies. Resources were fundamentally and disproportionately redirected from normal economic activity into the war effort. As a result, there was less home building and this is reflected in new home starts during the World Wars I and II. There was also less institutional-grade investment into new office buildings, retail centers, hotels, etc.
Immediately following WWII, real estate demand surged as GIs returned home, eager to settle down and build their families. At the same time, there was a dramatic expansion in civilian employment that led to increased demand for commercial real estate. Across the board, real estate values rose.
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The Impact Noteworthy Physical Attacks on Commercial Real Estate
Globally, military tactics have since evolved. There is less risk of large-scale, international combat. Instead, isolated but impactful physical attacks have become the norm. This would include attacks such as that experienced on 9/11 or the bombing of oil fields in the Middle East. Attacks such as these can send shock waves through the commercial real estate market.
Let’s consider the terrorist attack on the World Trade Center on 9/11. In the short term, this disrupted economic activity in Manhattan and had an impact on office vacancy rates. Longer-term, it caused some investors to pause before investing in trophy assets in major markets, as these were perceived as potential targets for future attacks. In some cases, it also caused insurance premiums to rise. Higher insurance premiums dragged down the pro forma, leading to some modest real estate devaluation from an owner/tenants’ perspective.
Now let’s consider how a physical impact on something like an oil field in the Middle East has an impact on commercial real estate.
Truth be told, a minor disruption in oil production will not have a significant impact on the U.S. economy, especially now that alternative energy has become more commonplace. That said, attacks such as these can otherwise create volatility in equity markets. Volatility in the equity markets can cause stock prices to fall, resulting in a downward adjustment in wealth. In other words, more economic volatility can mean less wealth, and less wealth means less investment to keep the commercial real estate wheels churning. During periods of instability, many investors pull their money out of commercial real estate in favor of “safer” investments such as bonds.
The Impact of Cyber Attacks on Commercial Real Estate
A third type of “war” to consider is cyber warfare. We (thankfully) have not experienced cyber warfare to a degree (yet or that we’ve either noticed or acknowledged) that has impacted commercial real estate. Yet the threat of cyber attacks remains high and increasingly, very real.
A cyber attack could have crippling impacts on the economy. Think, for example, of how many people rely on the Internet, their cell phones and computers to operate their day-to-day business. Consider the impacts of an attack on the Social Security Administration, where people are no longer able to receive their monthly benefits. Likewise, an impact on banking institutions could halt any and all lending necessary to complete commercial real estate transactions. Full-fledged cyber warfare could be devastating to the economy.
This is why so many corporations are investing heavily in backup systems, cloud storage, generators and the like. Redundancies are being built into all major systems to ensure companies can continue with business as usual in the event of a cyber-attack – and this itself presents commercial real estate investment opportunities for facilities housing these kind of backup systems.
The threat of cyber warfare has essentially created an entirely new commercial real estate product type: data centers. Purpose-built data centers and large warehouses that can house critical backup equipment are in increasingly high demand.
Broader Implications: How Economic Instability Impacts Commercial Real Estate
One of the reasons it is so hard to quantify the impacts of war on commercial real estate is because commercial real estate is a highly illiquid asset class. Therefore, aside from full-fledged and prolonged wars, momentary fears or threats of war typically have little impact on the sector. Now, that said, a looming threat of war can bring down the overall U.S. economy, which in turn, can have significant impacts on the commercial real estate industry. This can manifest itself in different ways, such as:
• Those who were once considering buying real estate might put their plans to do so on hold until the economy improves.
• Travel and tourism slow when people have less discretionary income to spend.
• Travel and tourism will typically slow in regions where there is ongoing conflict (e.g., Turkey or the Middle East).
• People do less shopping, thereby compressing retail center returns.
• Rising oil prices (think: oil shock of 1973 where prices doubled, even tripled) may influence someone’s decision about where to work or live, particularly if it results less dependence on a personal automobile.
• Corporations put expansion plans on hold until, thereby weakening demand for commercial real estate until the economy improves.
Conversely, when economic conditions become particularly dire, the Federal Reserve Bank will typically lower interest rates. A low interest rate environment can make owning real estate more affordable, and therefore, can cause an uptick in CRE investment activity. The U.S. had been in a low interest rate environment since the end of the 2008-2010 Great Recession, leading some to wonder how much lower interest rates could maneuver. However, the Fed changed that posture in early 2022, with two rate hikes through May and more expected. In any event, it is important to understand how monetary policy during a time of war can impact commercial real estate.
As you can see, there are many factors to consider when evaluating the impacts of war on commercial real estate. It is fair to say that war, unto itself, rarely has a direct impact on commercial real estate. Instead, wartime activities can cause instability in the marketplace, drumming up economic fear (perceived and real) that can have follow-on effects as it pertains to commercial real estate.