Andrew DeNardo drives strategic growth and operational excellence as President of First National Realty Partners.
Commercial real estate has been considered by some as a reliable hedge against broader economic and stock market volatility, outperforming most other asset classes and delivering a consistent yield. In recent years, retail real estate has particularly shone, as the sector is the only CRE type for which aggregate vacancy has declined since 2019. However, today’s economic environment presents unique challenges that require a more disciplined and strategic approach to retail real estate investing. Opportunities still exist, but finding and executing them requires the right sponsor. An experienced operator who actively manages each investment can add value across economic cycles.
From Pandemic-Era Liquidity To A Lending Reset
The CRE market was relatively stable in the period following the Great Recession until the onset of the Covid-19 pandemic, which drastically altered the macroeconomic landscape. In response to economic uncertainty, the Federal Reserve dropped benchmark interest rates to near 0% in March 2020. While this move was designed to support growth, it unleashed a wave of liquidity into the market. With capital so cheap, commercial real estate became a magnet for aggressive investment. Retail assets saw bidding wars (paywall) and cap rate compression. During this period, it was not uncommon for purchase prices to exceed asking cap rates, as investors chased yield with inexpensive debt. Many sponsors I know capitalized on the environment by securing short-term (three- to five-year) and, in some cases, floating-rate loans, often hedged with interest rate caps.
Fast forward to today, many of those loans that originated between 2021 and 2022 are maturing into a dramatically different environment (paywall). Even with stable Net Operating Income, rising cap rates and borrowing costs can significantly reduce property values. At the same time, the lending environment has tightened considerably. The high-profile bank failures of 2023—including Signature Bank and Silicon Valley Bank—triggered a contraction in CRE lending, particularly among regional banks. As a result, borrowers are often forced to inject additional equity to refinance, particularly when existing leverage is no longer available or justifiable under current valuations.
Retail Real Estate Holding Strong As An Asset Class
While all commercial real estate asset classes are contending with similar macroeconomic challenges, not all are impacted equally. Certain sectors are better positioned to weather these headwinds than others. Retail real estate, particularly grocery-anchored shopping centers, is expected to see continued strong demand and approximately 2% increases in lease rates, positioning it as one of 2025’s top real estate opportunities. This stands in sharp contrast to struggling sectors like multifamily, which are contending with softening rents and oversupply in formerly high-growth markets.
For retail sponsors, success now hinges largely on both a macro view of the portfolio and a granular focus on individual asset performance. Each property should be evaluated as if it were being acquired today, not based on past assumptions or hope for market recovery. Being a steward of investor capital means making decisions based on compelling reasons to hold assets, looking beyond surface-level market conditions and focusing on the individual property’s unique upside potential.
How Sponsors Are Addressing The Capital Stack
In today’s higher-rate environment, negative leverage (where borrowing costs exceed asset yields) has forced sponsors to get creative. Common strategies include:
• Capital Calls: Some borrowers/sponsors are requesting additional capital from common equity investors.
• Preferred Equity: This involves bringing in preferred equity investors who receive more favorable terms than common equity.
• Mezzanine Debt: Some source a second-position lender, though at a higher cost due to increased risk.
• Refinancing With Gaps: For situations where the primary mortgage falls short, you could syndicate additional debt to bridge the leverage gap.
• Selling The Property: As a last resort, selling the property may be considered if other options are not viable or advantageous for investors.
Each of these tools comes with trade-offs, and no single strategy fits every situation. Ultimately, the best sponsors are those who evaluate all available options through the lens of investor alignment and long-term asset performance.
Questions Every Investor Should Be Asking Their Sponsor
Given the current climate, investors should ask their sponsors key questions:
• Market Awareness: How has the macro environment changed since the property’s purchase, and how is the sponsor adapting?
• Execution Of Business Plan And Asset Management: Has the sponsor increased NOI, rent or occupancy, particularly through leasing? Ask about tenant retention, leasing progress and how vacancies are being addressed.
• Overall Portfolio Management Strategy: Is the sponsor employing a broad-based approach, or are decisions individualized for each asset or fund? Are they truly being a steward of your capital?
• Market Perspective And Communications Consistency: How does the sponsor interpret today’s economic realities, and are they delivering a clear, consistent message?
• Patience: Are you able to separate short-term emotions from long-term investment strategy? In times of uncertainty, maintaining patience and discipline is critical to making sound decisions.
• Investor Education And Sponsor Transparency: Are you taking full advantage of your sponsor’s knowledge? Investors should work with transparent, responsive sponsors who prioritize service.
In today’s environment, asking the right questions isn’t just due diligence; it’s essential to protecting your capital. The sponsors who welcome this level of scrutiny are often the ones best positioned to deliver long-term results.
Considering current market conditions, it is more important than ever for sponsors to clearly and consistently communicate their execution strategies to investors. This includes transparent updates on leasing activity, proactive asset management and the reasoning behind strategic decisions. Investors, in turn, should exercise patience and maintain a long-term view.
The information provided here is not investment, tax, or financial advice. You should consult with a licensed professional for advice concerning your specific situation.
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