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This study decomposes the effects of changes in required rates of return and expected rent growth on average national prices for the four major types of commercial property. Results imply that work-from-home (WFH) has raised capitalization rates (essentially, earnings-price ratios) for top-end commercial offices by enough to lower equilibrium prices by 19 percent. While the rise of online shopping appears to have lowered warehouse cap rates enough to boost prices by 16%, we do not find a discernible effect on apartments or retail power centers. We also find that capitalization rates react quickly to changes in required rates of return; however, the latter tends to respond with a lag to factors affecting risk premia. Finally, accounting for shifts in expected rent growth and risk premia (which incorporate WFH and online retailing effects) as well long term interest rates, we find that prime offices and apartments remained overvalued by 13 and 25 percent, respectively, at year-end 2023. The potential degree of apartment overvaluation is noteworthy. In contrast, prices for top quality warehouses and retail power centers were near current long-run fundamentals.

Key Words: Commercial real estate, office, retail, work from home, COVID, online retailing
JEL Codes: R33, E44

*The views expressed are those of the authors and are not necessarily those of the Federal Reserve Bank of Dallas or the Federal Reserve System. This study has benefited from long-lasting intellectual debts to our dissertation advisors Pat Hendershott and the late Dwight Jaffee, and also to Wayne Archer, John Muellbauer, Susan Wachter, and Bill Wheaton.

About the speaker

John V. Duca is the Danforth-Lewis Professor of Economics at Oberlin College. He joined Oberlin in the spring of 2018 to teach advanced macroeconomics, money and banking, and intermediate macroeconomics. From 1991 to 2017, he worked at the Federal Reserve Bank of Dallas, where he last served as the associate director of research and vice president, supervising research in macroeconomics and finance. From 1986 to 1991, he was at the Federal Reserve Board where he briefed former chair Paul Volcker, former chair Alan Greenspan, and the Federal Reserve Board. He is currently an emeritus economist at the Federal Reserve Bank of Dallas. John has published about 60 articles on macroeconomics, money, housing and real estate, credit, wages, and political economy in refereed journals and over 50 other articles in Federal Reserve publications. He has a PhD in economics from Princeton and a BA from Yale.

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