Understanding Recession Impact
Historical data shows: During 2008-2009 Great Recession, office vacancy increased 8-12%, rents declined 15-20%, defaults 8-12%. Retail saw vacancy jump 6-10%, rents down 10-15%, defaults 6-10%. Industrial was resilient with vacancy up 4-6%, rents down 8-10%, defaults 2-4%. Apartments saw vacancy up 2-4%, rents down 5-8%, defaults 1-3%. During COVID's 5-month recession, office saw vacancy up 3-5%, rents down 5-10%, defaults 3-5%. Retail was harder hit with vacancy up 2-4%, rents down 8-12%, defaults 4-6%. Industrial nearly unaffected with vacancy 0-1%, rents flat. Apartments resilient with vacancy 0-2%, rents stable.
Building Base Case
Start with realistic base assumptions. A $5M multi-tenant retail: current occupancy 92%, rent $18 per sqft, NOI $350K, debt service $260K, DSCR 1.35x. Year 1: occupancy 90%, rent stays $18, NOI $336K, DSCR 1.29x. Year 5: occupancy 88%, rent $18.54 (2% growth), NOI $345K, DSCR 1.33x. This assumes normal conditions with modest vacancy and rent growth.
Moderate Recession Scenario
Define as 6-12 months contraction with 1-2% unemployment rise. Assumptions: vacancy up 4-6% (8% to 12-14%), rents down 5-8% ($18 to $16.60-$17.10), renewal rates 10-15% lower, defaults 2-4% additional. Year 2 impact: occupancy drops 90% to 84%, rent declines 6% to $17, GRI drops $360K to $318K (-$42K or -11.7%), NOI drops $336K to $276K (-$60K or -17.8%), debt service stays $260K, DSCR falls 1.29x to 1.06x. You're cash-flow positive but tight—refinancing becomes difficult.
Severe Recession Scenario
Define as 18+ months contraction with 2-3% unemployment rise. Assumptions: vacancy up 8-12% (8% to 16-20%), rents down 10-15% ($18 to $15.30-$16.20), renewal rates 20-30% lower, defaults 5-8%. Year 2 impact: occupancy drops 90% to 80%, rent declines 12% to $15.75, GRI drops $360K to $270K (-$90K or -25%), NOI drops $336K to $210K (-$126K or -37.5%), debt service $260K unchanged, DSCR falls to 0.81x. Critical: Below 1.0x means cash-flow negative. 18-month duration creates $189K shortfall exceeding reserves. Forced action required: concessions, sale, default, or capital injection.
Building Your Model
Step one: Define scenarios (Base, Moderate, Severe). Step two: Set assumptions by property type (Office: Moderate vacancy up 6%, rent down 8%; Severe vacancy up 12%, down 15%. Retail: Moderate up 4%, down 6%; Severe up 10%, down 12%. Industrial: Moderate up 1%, down 2%; Severe up 4%, down 5%). Step three: Model 24-month timeline with gradual deterioration. Step four: Model your response (CapEx cuts, rent concessions, lender negotiations, potential sale).
Resilience Metrics
Calculate cash reserves needed. Recession NOI $210K minus debt service $260K equals monthly shortfall $4,167. Sustain 12 months requires $60K; 18 months requires $100K. Most deals don't have this. Second, test covenant violations. Most loans require minimum DSCR 1.15-1.20x. If recession takes DSCR below minimum, lender can accelerate loan. Third, assess refinancing ability. After recession stabilization, can new lender approve refinance with stressed numbers?
Frequently Asked Questions
How conservative should recession assumptions be?
Use 2008-2009 data for your property type. Retail 8-10% vacancy increases; office 10-12%. Use as moderate recession baseline.
What DSCR do you need in recession?
Minimum 1.05x to stay cash-flow positive. Minimum 1.15x to avoid covenant violations. Target 1.20x plus for true safety.
Model severe recession?
Yes. Severe is tail risk (20% probability) but cost of being wrong is bankruptcy. Model it.