Chapter 01: Major Asset Classes

Section 01: Hospitality

Ian Formigle, Chief Investment Officer
Ian Formigle •
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3 minute read

Outlook

The hospitality industry was arguably the hardest hit sector during the pandemic, from an operating perspective, when the industry practically came to a standstill overnight. For context, STR reported that Revenue per Available Room (RevPAR) at the national level dropped from its 2019 peak of $99 in July 20193 to historic lows of $17 per room in April of 20204.

Despite the absolute devastation that the industry experienced in 2020, the sector recovered in 2022 as RevPAR reached its highest level at $110 per room in June of 20225. Leisure travel helped drive the initial rung in recovery amid what was referred to as the “summer of all summers” by STR, due to pent-up demand during the lockdown and the highest consumer savings rate in recent history6. Savings have since toned down and given that the economic environment has become more uncertain, we expect that consumers may hold back on travel plans in the second half of 2023.6

Given that the economic environment has become more uncertain, we expect that consumers may hold back on travel plans in the second half of 2023.
Hospitality-Outlook-1

STR reported that leisure travel is now exceeding business travel and the latter is “up and down” and inconsistent across markets. Business travel is generally affected by convention and conference activity, which had dwindled to basically nothing during 2020 to 2021 and had resurfaced in 2022. However, with increased layoffs in 2023, companies may pull back further on conference and business travel which may dampen recovery.

Figure 4: Hospitality Market Fundamentals by Year
Revenue per Available Room & Occupancy 1-1

Business travel recovery may also depend on the recovery and activity in the respective market’s office sector. Office ghost towns such as the Silicon Valley are still behind in their hotel recovery while markets like Dallas, which are seeing more activity are recovering faster due to resurging business-transient demand. Overall, along with leisure travel, business travel needs to pull its weight for us to see a stronger recovery in the hospitality sector.

When occupancy starts to catch up and exceed pre-pandemic levels, it will likely add more fuel to the recovery and growth in this sector.
Hospitality-Real-Estate-Outlook

Although revenue is recovering, occupancy is still below pre-pandemic levels.7  The recovery in revenue is mainly due to higher Average Daily Rates (ADR) as opposed to occupancy levels. We believe that when occupancy starts to catch up and exceed pre-pandemic levels, it will likely add more fuel to the recovery and growth in this sector. Hotels are now performing at pre-pandemic levels on a nominal basis, according to data by STR; however accounting for inflation, the real recovery in revenue is still underway.8 Concurrent with STR’s forecast, we expect real recovery by 2025 and believe that 2024-2025 could likely set a new top line performance bar for the hospitality sector, based on the recovery so far.8

While STR reported that revenue hit its all-time high, it’s hard to ignore that labor costs are rising significantly as well. Historically, hotels have been relatively more susceptible to inflation given their larger operating budgets. While the pent-up demand for hotels is helping push up occupancy and revenue rates nationwide, we still see labor shortages, high inflation, and a rise in interest rates collectively hampering the pace of recovery.

 

Opportunity

We are leaning into the next phase of recovery for the hospitality sector, but with caution. In the immediate aftermath of the pandemic, we saw hospitality asset pricing discounted by as much as 20%9 relative to 2019 trades but Green Street reported that prices climbed back up in 2021.
As with many asset classes, the illiquidity of capital markets and the resulting high cost of debt is seeping into hotel valuations by putting downward pressure on deal pricing, which is currently at a relative discount to its own historical trendline. However, because pricing was already at depressed levels and is still in mid-recovery after the pandemic, the percentage of decline due to the capital markets is relatively low as compared to the multifamily and industrial sectors.


CBRE stated that although price declines varied by the type of hotel, they were down by roughly 15% year-over-year in 2022. From our lens, prices for hospitality assets are essentially stuck at their pre-pandemic levels—some of these assets would have likely appreciated were it not for the outlier effects of the pandemic that disrupted pricing from its standard growth trend.

With overall prices now roughly back to pre-pandemic levels, we are focusing on situations where pricing disparities continue to exist for properties that are bouncing back.
Hospitality Real Estate Investing Market Outlook

With overall prices now roughly back to pre-pandemic levels, we are focusing on situations where pricing disparities continue to exist for properties that are bouncing back in their occupancy, revenue, and average daily rate, particularly leisure, high-tier/luxury, and extended-stay hotels, especially in drivable, leisure-oriented destinations or vacation markets with travel demand. Our outlook, however, is cautious because we expect a low savings rate, slow recovery of business travel, and high inflation to affect travel demand.

Assuming business travel recovers, the blending of remote work into leisure travel or “bleisure” may provide opportunities in upcoming years for urban, leisure, and extended-stay hotels.

 
3 ”U.S. hotel performance for July 2019,” STR, 2019.
4 ”U.S. hotel performance for April 2020,” STR, 2020.
5 ”Market Recovery Monitor - 11 June 2022,” STR, 2022.
6 Personal Savings Rate, Federal Reserve Economic Data, May 2023.
7 ”U.S. hotel commentary - February 2023”, April 2023.
8 ”STR, TE make modest upgrade to first U.S. hotel forecast of 2023,” STR, 2023.
9 CrowdStreet, May 2023.

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