Investors on the Hunt for Hedges as Inflation Rises

A new crop of investors is staring down the barrel of rising inflation for the first time, and the impact on the CRE market—long viewed as at least a partial hedge against such increases—remains to be seen.

Shortages for everything from computer chips to lumber have led to mounting concerns about inflation in financial circles over the past year, and that debate has magnified recently as it’s become more clear that demand for many materials is far outstripping supply.

This dynamic “typically happens during recoveries, but the unique nature of this crisis, creating both voluntary and involuntary supply bottlenecks, will take longer to rectify,” says Ryan Severino, Chief Economist at JLL in a new post. “It is always easier to take supply offline than it is to bring it back.” 

Severino notes that the challenges of the current recovery will lessen over time, since pent-up demand is likely to return to normal in the near term. But he also says inflation will remain “sustainably above levels that many have gotten used to over the last 12 to 13 years.”

“The amount of inflation is unlikely great enough to have grave economic consequences in and of itself, but commercial real estate can still reintroduce itself as a partial and even imperfect hedge,” Severino says. Rising prices can be passed on through rent increases, and in certain asset classes like hospitality and multifamily, the response to inflation can happen quickly since leases tend to be shorter.

“The fundamental idea is that either leases have specific clauses which allow rents to increase and compensate for inflation, or the property types have short lease terms that can be ‘marked-to-market’ relatively quickly—meaning operators/owners can raise their rates to offset inflation,” says Gilda Perez-Alvarado, Global CEO, JLL Hotels & Hospitality in the post. 

“Think about, for example, hotels. Hotels effectively have one-night lease terms. If inflation starts rising, hotels can immediately adjust rates.”