Impact of COVID-19 on the Real Estate Sector

The real estate sector has witnessed an unparalleled boom since the end of the 2008 recession. Governments all over the world have followed loose monetary policies in the aftermath of the previous recession. This meant that the money supply all over the world increased by leaps and bounds. Most of this newly created money found it’s way into the asset markets and ended up creating new bubbles. The real estate market was one such market. Just before the coronavirus crisis struck the world, the real estate sector was witnessing a period of stagflation. The prices had reached unprecedented peaks. However, there were no buyers in the market who were actually transacting at the quoted prices. Hence, the market was characterized by artificially high prices and no transactions.

The coronavirus has caused all the financial markets in the world to crash. Most stock markets have lost about 40% of their value. The real estate market should not be an exception. However, since the market is illiquid, the fall in prices is not visible yet. However, soon the real estate sector will witness the many negative effects of the COVID-19 crisis.

In this article, we have listed down some of these effects which the real estate market is likely to face:

• Fall in Prices: Experts have been of the opinion that real estate prices have been inflated for many years. However, the prices were witnessing a time correction instead of a price correction. This meant that the prices remained stagnant while the income levels were increasing. Hence, affordability was increasing.

• Now the money supply in the economy is likely to go down. Also, real estate prices are a factor of the money supply itself. Hence, if the world witnesses a deflation, so will the realty prices. The central banks will not be able to do much to help this sector. This is because they, too, have limited tools and resources at their end, which will be used up to beat the coronavirus, which is the need of the hour. Many investors already know that dark days lie ahead for the real estate market. Hence, they are trying to exit the same. However, with lockdowns in place in most parts of the world, real estate transactions are not taking place, and the market has completely frozen.

• The fall in prices will be accentuated by the fact that a lot of people in the market will not have stable jobs. Most of the people in the market will be fearing job losses. Hence, they will not be willing to take up big loans for making a luxury home purchase. The only realty segment which will see any traction is affordable housing and that too at affordable prices.

• Loss of Rental Income: Apart from the outright sale, rental income is also a major part of the real estate sector. This is truer in the case of commercial real estate such as offices and malls, which are built by developers and leased out to huge corporations such as departmental stores and multinational companies.

• Entities such as malls, theatres, and offices will remain shut down for a long time. The social distancing norms will make it impossible for these places to operate at full capacity for some time. As a result, many corporations are likely to call in the force majeure clause in their contracts. As per this clause, if any natural calamity such as floods, earthquakes, etc. takes place, the other party is free from its responsibilities. Many tenants have already started invoking the force majeure clause in order to not pay rent for the current period. As long as the offices and malls are closed, these companies are not generating sufficient revenue to pay down the rent. If they do pay the rent, they will end up in losses. Hence, it is likely that they will avoid paying the rent. However, if they do so, the cash flow position of the developers will deteriorate even further.

• Project Delays: Investors whose money is already invested in real estate projects may face some further delays. This is because the cash flow situation of the developers will worsen over time. Also, the raw material to build more buildings will not be easy to obtain in the future. This is because the factories in which raw materials such as cement, iron rods, bricks, etc. are built are not working during the lockdown. Post lockdown also, it will take some time before these factories will start working at full capacity. Also, as mentioned above, developers will see muted cash flow receipts from their projects. Hence, they may not have the money to invest further and complete projects which have been started. Banks are other financial institutions may not be willing to lend to this sector as it is already being seen as a high-risk sector. All the above-mentioned factors mean that the projects will be delayed, possibly for a long period of time.

To sum it up, the real estate sector is going to be one of the biggest losers from this coronavirus crisis. The price of its current inventory will fall, the funding will dry up, and customers will desert the market in the next few months.

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The article is Written By “Prachi Juneja” and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.