The commercial real estate industry is facing a new post-pandemic year in 2023, and TalentWoo dishes on what to expect in 2023 for the hospitality real estate vertical. Will the pent-up demand for travel, leisure, and events continue? Will a tightening of the economy by the Federal Reserve interest rates height dampen demand and impact returns for hotels?
According to a new report 2023 Hospitality Investment Forecast from Marcus & Millichap, the national economy has experienced boomeranging demand from both businesses and consumers, and we have the fiscal and monetary policy of the Federal Reserve to thank for that. However, easy monetary policy and supply chain issues have led to heightened inflation that is expected to continue into 2023. While some Americans have accumulated significant savings during the rebound, many others have become ever more reliant on debt.
Following pandemic lockdowns, many companies aggressively expanded their headcounts, leading to job openings exceeding the number of people looking for work. Demand for talent acquisition from TalentWoo real estate clients was at an all time high. However, businesses across various industries – not just real estate – are now limiting hiring. Many are going so far as to reduce headcount in anticipation of economic headwinds.
The U.S. leisure and hospitality sector as a whole shed a net 4 million positions in 2020 in response to pandemic shutdowns, but by 2022 had all but clawed its way back, hiring 95% of the jobs lost. Nonetheless, the rebound has been uneven across different markets. While some locations, such as Southeast Florida, Las Vegas, and Austin, have outperformed, San Francisco and New York City have sector deficits. In 2023, some pandemic hotspots are expected to take a step back, while beleaguered metros make progress.
Last year, domestic leisure travel contributed to the third-highest hotel room demand on record, leading to new all-time highs in Average Daily Rate (ADR) and Revenue per Available Room (RevPAR). However, the expected slowdown in domestic travel in 2023, fueled by higher airfare, fuel costs, and room rates, may cause some households to curtail or alter their leisure trips. In contrast, inbound international tourism is likely to increase, especially from China and Japan. Larger gateway metros such as New York City, Washington, D.C., Los Angeles, and San Francisco are expected to drive growth in 2023.
The Federal Reserve’s pandemic-induced accommodation period ended last year when it began reducing its balance sheet and raising the federal funds rate at the fastest pace since the early 1980s. The pace of rate hikes moderated earlier this year, and the consistency should enable lenders and borrowers to find common ground. Despite improved capital availability for hotel investment sales, lenders will likely remain cautious due to lingering risks and the Fed’s quantitative tightening measures, leading to higher spreads. However, limited or select-service assets with strong fundamentals in well-traveled locations are in favor with capital providers.
Strong growth in nationwide ADR and RevPAR over the past two years is driving buyer activity for hotels. However, interest rate hikes and the resulting surge in debt costs have slowed the near-term outlook for sales activity. Buyers and sellers are misaligned on pricing, and this expectations gap is expected to continue until interest rates stabilize. Many buyers are focusing on limited-service establishments, which proved their resilience during elevated health concerns. However, investor interest in higher-tier assets is present, and strong revenue growth may heighten buyer demand for luxury hotels. A softening labor market may also help reduce staffing shortages and enable more service-intensive hotels to operate more rooms consistently.
Leisure budgets will be constrained this year due to economic pressures amid uncertainty in the labor market. The pandemic rebound has created repercussions, with demand from businesses and consumers increasing after early setbacks. However, supply chains have been plagued by headwinds generating heightened inflation that is stretching into this year. Some individuals have significant savings, but others have become more dependent on debt, and the cost of borrowing has also climbed, causing many to be more cautious in 2023. In terms of the job market, there may be hidden positives as reduced employment prospects amid inflation could influence more individuals to seek positions with hotel operators. Meanwhile, the outlook for the national economy in 2023 includes uneven employment recovery, milder fuel costs that could aid road travel, and inflation prompting thriftier travel agendas. The hospitality sector is expected to shift into a slower recovery phase due to economic hurdles, with progress tempered by factors such as generally higher airfare, fuel costs, and room rates weighing on the travel budgets of many households. Instead, the nation’s larger gateway metros are expected to drive much of the growth in 2023, while certain segments of the hospitality sector may benefit from a shift to less costly trips.
2023 CAPITAL OUTLOOK
The 2023 outlook for capital markets in the hospitality sector suggests that while distress is currently low, risks still remain. Under-performing hotels could find themselves in trouble as more loan maturities come due, especially older full-service hotels in downtown settings of major gateway metros. Owners may need to turn to new capital partners to weather these challenges.
Large-scale deals are expected to continue, with entity-level actions and portfolio transactions likely to persist as they are less exposed to the current interest rate challenges. High financing costs and elevated construction expenses may again temper deliveries after this year, as fewer projects under planning ultimately pencil.
The limited-service asset segment has led the way amid constrained deal flow, with extraordinary growth in nationwide ADR and RevPAR over the past two years supporting buyer activity for hotels. Many of the buyers working through these hurdles are focusing on limited-service establishments, which accounted for nearly half of all trades last year.
Consideration of higher-tier assets is gaining momentum, with deal flow for hotels in the upper-midscale segment rising by more than 40 percent in 2022. Investor interest for higher-tier assets is present, and many buyers are optimistic that business travel volume and convention activity will return to more normal levels in the near future, which aids in the investment appeal for these types of properties.
The 2023 investment outlook suggests that higher yields add to investment appeal, with the average hotel yield of 8.5 percent closing out last year still roughly 170 basis points higher than any other major commercial asset class. Large West Coast markets such as Los Angeles, the San Francisco Bay Area, and Seattle-Tacoma could potentially benefit from an acceleration of international tourism in 2023, increasing investment appeal for hotels in these areas. Improving hospitality employment is also helping the bottom line, with the leisure and hospitality workforce returning toward more normal levels.
For assistance in staffing your hospitality real estate, contact TalentWoo today. Our real estate recruiting experts have years of real estate specific talent acquisition experience and a strong network of professionals in the industry.