Rich Hill
Fundamentals drive returns in an uncertain environment
We entered 2025 on a wave of optimism, but policy and geopolitical shifts have once again altered market dynamics, pushing investors to brace for a risk-off environment. That said, we believe commercial real estate (CRE) remains in a stronger position today than at any point in the past three years. Pricing in the private equity market has likely reached its trough, aggregate occupancy remains healthy, and operating income supports an investment performance rebound. Debt is readily available, and U.S. publicly listed REITs were resilient in the face of a challenging backdrop (+2.1% YTD) while European REITs performed admirably (25.4% USD / +12.8% EUR). The debt and public equity markets are historically leading indicators for private equity CRE.
The U.S. economy, for its part, has weathered the storm of tariff implementation, immigration reform, and higher borrowing costs. Globally, consumers have remained resilient in the face of heightened uncertainty and the specter of higher inflation. Fully employed labor markets have bought some time, but we believe slower growth lies ahead in the U.S., and the margin for error is narrower than it was at the start of the year. By comparison, Europe may be on relatively stronger footing given stimulus spending.
Our mid-year update explores the evolving macroeconomic environment and the CRE investment landscape. While 2025 has proven more challenging than initially anticipated, we reiterate that we’re on the cusp of a turning point. A deeper understanding of systemic risks will help investors navigate this more nuanced environment—especially during the early stages of recovery. Fundamentals will be a primary driver of total returns versus the post-GFC financially engineered returns, that were driven by historically low interest rates. Property and market selection are therefore paramount.
In the U.S., we expect unlevered total returns of +/- 5% in 2025 driven primarily by income returns, although we also provide a scenario analysis based on the key factors that drive valuations. Europe may be closer to 6-7% given a combination of an improving economic outlook, wider cap rates, and declining interest rates. We continue to believe private debt is among the most attractive opportunities across the four quadrants.
Fundamental focus
1. Opportunities emerge but at a measured pace in 2025
We had anticipated 2025 to be a year of transition and opportunity. The current policy and geopolitical environments have presented challenges but have not halted the real estate recovery. Values are recovering, albeit slowly, due to still elevated capital costs and the possibility of higher inflation. To be sure, real estate is in a better position as of mid-year 2025 than it was just a year ago. Debt markets are functioning, and capital is flowing at an increasing rate, bid ask spreads have narrowed and while investors are cautious, they remain engaged.
2. Investor focus should remain firmly on emerging and structural trends
Data centers, residential, and healthcare sectors will remain among our highest conviction sectors for 2025. These sectors are driven by demographics and technology—the bedrock of the global economy and real estate demand.
3. Uncertainty; but we are at the beginning of a new cycle
If we have learned anything about real estate as an asset class, it is that it has historically generated excellent risk-adjusted returns across long expansionary cycles. We suggest that investors focus on quality and sector selection to hedge against near-term uncertainty.
By Rich Hill, Global Head of Real Estate Research & Strategy.
