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Analysis

Brexit issues and impacts: US commercial real estate

A closer look at what’s next

The decision by voters in the United Kingdom to exit the European Union (EU), known as “Brexit,” was a surprising one. Financial services institutions in the UK and Europe will bear the brunt of this event over both the short and longer term, but what about their counterparts in the US? Read a Closer look from the Deloitte Center for Financial Services to understand the impacts of Brexit for US commercial real estate.

Scroll down for an overview of the critical issues commercial real estate (CRE) will face or download the full PDF for a detailed, at-a-glance breakdown of the financial, regulatory, operational, and strategic implications for US CRE executives.

The world turned upside down?

In the post-Brexit world, one thing is certain—US commercial real estate (CRE) firms will be challenged in doing cross-border business. This situation can exacerbate if Brexit has a cascading impact and other countries seek to leave the EU. The initial implication of the potential changes for US CRE firms, can directly affect owners, brokers, and engineering and construction players.

What’s next for US commercial real estate?

It appears that Brexit is likely to have a positive impact on the US CRE sector. A potential flight to safety may result in an increase in inflow of global funds to US markets as they are considered relatively more stable and secure. CRE firms with limited to no exposure to the United Kingdom are likely to benefit from increased investments, higher transaction activity, and a resultant rise in property prices.

The US government may continue to maintain low interest rates, but interest risk premiums on mortgage debt are expected to grow due to higher volatility. The latter would ultimately offset any decrease in benchmark government rates.

CRE firms that have an exposure to the UK will likely face volatility in the short-to-medium term. There may be downward pressure on demand and price in the UK property market, leading to a negative impact on development and transaction activity. The situation could be compounded as refinancing activity may be affected by a reduction in bank lending. Further, E&C companies with projects in the UK will also bear the brunt of any higher material import costs due to a weaker pound sterling.

Lower asset values can be very damaging for large institutional investors with exposure to the UK, as they are likely to have significant mark-to-market losses on their portfolios in the short-to-medium term. Heightened perceived risk will likely increase cap rates, and uncertainty about future demand for all types of real estate will likely drive down rental rates, resulting in value declines. Uncertainty about the implications of Brexit on the broader UK economy is expected to have negative implications on liquidity in the UK CRE transactions market, potentially making it difficult for these firms to exit their investments. UK CRE investors will need to reevaluate their capital commitments and exit strategies, although any stop-gap fiscal measure by the UK government could provide some relief.

Ultimately, uncertainty around future demand for UK real estate may reduce appetite for long-term investment and development. It will be interesting to gauge the relative attractiveness of the UK as a significant and transparent investment market as the situation unfolds over the next few years.

Continue reading about critical implications of Brexit on US CRE, or view the full series to understand the impacts on other key FSI sectors.

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What are three likely implications for US CRE firms?

There are several considerations for US CRE firms in the post-Brexit era. We briefly examine some of the more significant ones below.

1. Critical implication: Uncertainty and slowdown in UK economic activity
Area of focus: Strategy and business model

What is the likely impact?

  • Increased attractiveness of US CRE market as a stable and safe investment destination.
  • Higher transaction activity and cap rate compression in US CRE due to increased demand.
  • Inverse trends in the UK CRE market with negative impact on development, transaction activity, and prices.

2. Critical implication: Potential earnings decline on UK exposure
    Area of focus: Operations   

What is the likely impact? 

  • Firms may have to maintain EU regulatory compliance while preparing for EU regulatory scrutiny.

3. Critical implication: Continued low US interest rates
    Area of focus: Financial

What is the impact?

  • Interest rates will likely remain low as the US Federal Reserve aims to support economic growth amid market volatility and a strong dollar.
  • However, interest risk premiums on mortgage debt are expected to grow due to higher volatility and risk, perhaps offsetting any decrease in benchmark government rates.

Download the PDF to discover all likely implications for CRE executives to consider.

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Brexit: Implications for US financial institutions


Read this series from the Deloitte Center for Financial Services to understand the impacts of Brexit for US banking and capital markets, insurance, and investment management.
 
 
View the archived Dbriefs webcast: Brexit: What now for financial services?
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