Diving “Debt-First” Into U.S. Office
Work-from-home (WFH) headwinds combined with pressure from elevated interest rates, higher borrowing costs, and decreasing investor flows have hit the U.S. office sector especially hard. Meanwhile, a wave of upcoming loan maturities is creating the need for significant capital at a time when funding availability is challenging.
Against this backdrop, we see an opportunity forming for investors to sequence their exposure to the office market—a process we believe starts with a risk-adjusted approach to tactically leveraging debt. However, this is only the case for assets that can thrive in a WFH world. There is convincing evidence that higher-quality, well-located assets may do just that.
Why do we think the U.S. office sector may be especially attractive for debt investors at this point in the market cycle?
■ Returns Appear to Favor Debt: Debt means yield for investors, and although there is volatility in the data, the average mortgage constant on U.S. office fixed mortgages currently exceeds the average yield on equity, as measured by the capitalization rate (see chart below). This has generally persisted since the middle of 2022. Looking back over history, this hasn’t happened very often. We would argue that this inversion presents a rare opportunity for debt investors to earn high cash yields.
