Welcome to the latest edition of Inside Real Estate Today. My name is Rich Hill. I'm global head of Real Estate Strategy and Research at Principal Asset Management. This month, we're digging into our spring 2026 sector reports for both the U.S. and Europe. In these reports, we detail where we are in the commercial real estate cycle, what risks remain, and how investors should be thinking about the various property types. Let's start with the United States.

The U.S. commercial real estate cycle appears to be in recovery by nearly all traditional measures. However, this is a cycle for selectivity, given significant dispersion in returns across property types, markets, and even fund vehicles. So what property types do we like? Well, we start with property types that have strong structural tailwinds like data centers, industrial, and senior housing. We believe these sectors will have strong net operating income growth, which we believe will be the primary driver of total returns because it drives both income returns and capital returns in a world where there will not be significant cap rate compression.

The apartment sector continues to recover and stabilize with fundamentals improving as construction starts decline and occupancies begin to rise. However, structural challenges do still exist, especially in the office sector. While we are starting to see a recovery, it's from a low starting point. And we see an increasingly bifurcated market. One of my favorite stats comes from JLL, where they suggest 90% of office vacancy is concentrated in 30% of buildings and 40% of buildings have no vacancy whatsoever.

Finally, the retail sector is on very strong fundamental footing as supply and demand are now balanced again. However, our analysis suggests that only 5% to 10% of shopping centers are institutional quality, making selectivity very important. Turning our attention to Europe, heading into 2026, we saw a commercial real estate backdrop that was on very solid footing. Prices are accelerating higher, and forward-looking indicators are inflecting positively.

Case in point, total returns in 2025 were greater than 6%, which was about 100 basis points higher than where it was in 2024. This was driven by both income returns and capital returns. So what property types do we like? Much like the United States, we see significant dispersion across property types and markets. While headline fundamentals might appear to be converging, there's actually pretty significant divergence across the various markets in Europe. The office market is the best example of this.

High quality office buildings and supply constrained markets are performing quite well, whereas low-quality buildings where there is less supply constrained markets are lagging. Similarly, in the industrial market, we favor modern logistics facilities, but see increasing obsolescence risk for older facilities that do not work for modern tenant demands. Bottom line, the global commercial real estate market appears to have moved into recovery.

The U.S. listed REIT market, which is a leading indicator, has now seen valuations move above prior cycle peaks. This indicates a transition from recovery into expansion. And private market valuations in the United States have risen for seven consecutive quarters versus eight consecutive quarters in Europe. But this is not going to be a V-shaped recovery or even a U-shaped recovery. We think it's a K-shaped recovery, given the significant dispersion in returns that we've discussed. Net operating income growth is the key to driving total returns.

Net operating income drives income returns, and it drives capital returns in a world where there's not going to be cap rate compression. Themes still matter, so selecting the right sectors is critical. But you deliver alpha by picking the right markets in those sectors.