As of December 2025, U.S. commercial real estate transaction activity surged 12.6% quarter-over-quarter in Q3 2025, with median price per square foot reaching post-pandemic highs at a 14.2% year-over-year gain. Yet within this broader recovery narrative, hospitality assets are commanding disproportionate attention from institutional allocators, a dynamic that Colliers' 2026 Commercial Real Estate Outlook frames as "stability through uncertainty." This analysis examines the operational fundamentals driving hotel investment momentum despite broader CRE sector headwinds, the structural repricing dynamics behind gateway market cap rate expansion, and the strategic implications for institutional capital deployment in an environment where operational alpha increasingly determines risk-adjusted returns. Our quantamental frameworks reveal that while CRE broadly recovers, hospitality's transparency advantages and consumption-driven revenue streams create a distinct opportunity set for sophisticated allocators.

Hotel Market Momentum Diverges from Broader CRE Fundamentals

U.S. commercial real estate transaction activity surged 12.6% quarter-over-quarter in Q3 2025, with median price per square foot reaching post-pandemic highs at a 14.2% year-over-year gain, according to ¹Altus Group's Q3 2025 U.S. CRE Transaction Analysis. Yet within this broader recovery narrative, hospitality assets are commanding disproportionate attention from institutional allocators, a dynamic that ²Colliers' 2026 Commercial Real Estate Outlook Report frames as "stability through uncertainty." Hotels currently offer stronger yields than much of the commercial real estate market, per ³Hospitality Investor's 2026 capital flows analysis, particularly as operational performance improves and supply growth moderates.

This yield advantage reflects a fundamental structural shift. While office and retail sectors grapple with secular headwinds, hospitality benefits from embedded inflation protection and consumption resilience that our Adjusted Hospitality Alpha (AHA) framework captures through revenue elasticity metrics. The pricing momentum across CRE sectors masks critical divergence in risk-adjusted returns. As David Swensen observes in Pioneering Portfolio Management, "The most attractive asset classes combine inefficiency with structural sources of return that persist across market cycles." Hospitality fits this profile precisely in 2026, where operational leverage, pricing power tied to constrained supply, and demonstrated RevPAR recovery create a return profile that retail and office cannot replicate.

The 14.2% year-over-year pricing gain in CRE broadly reflects capital rotation into real assets amid persistent inflation concerns, but hotel assets capture both the defensive real-asset premium and offensive growth characteristics tied to consumption recovery. Our Bay Adjusted Sharpe (BAS) framework quantifies this advantage. When volatility-adjusted for consumption-driven revenue streams versus lease-dependent sectors, hotels demonstrate superior risk-return profiles in environments where nominal growth exceeds real growth, precisely the 2026 setup Colliers identifies.

This momentum creates tactical opportunities for allocators willing to parse sector-level heterogeneity within the broader CRE recovery. Gateway markets face distinct challenges tied to office vacancy and corporate space rationalization, while hospitality benefits from corporate travel normalization and international inbound recovery. The post-pandemic pricing highs in CRE reflect liquidity returning to the market, but transaction velocity in hospitality, particularly for select-service and extended-stay formats, outpaces broader sector averages due to operational transparency and proven recession resilience. When Liquidity Stress Delta (LSD) improves materially in one CRE subsector while others remain constrained by structural oversupply, it signals capital allocation inefficiencies that sophisticated investors can exploit through targeted sector rotation.

The broader CRE recovery narrative that Colliers and Altus document provides essential context, but for institutional allocators, the critical insight lies in recognizing that hospitality's operational fundamentals, measurable daily through RevPAR and occupancy data, offer transparency advantages that illiquid, lease-dependent sectors cannot match. As Howard Marks notes in The Most Important Thing, "Risk means more things can happen than will happen," and in 2026, the range of potential outcomes for hotels, bounded by consumption resilience and supply discipline, appears materially narrower than for office or retail, where secular demand questions persist regardless of transaction momentum.

Gateway Hotel Cap Rate Expansion Signals Structural Repricing

Gateway markets are experiencing a structural repricing rather than a cyclical correction, with sold cap rates expanding 202 basis points year-over-year in Q3 2025 according to ⁴Crexi's 2026 Hospitality Real Estate Outlook. This reset reflects not distressed selling but rather a recalibration between buyers demanding risk-adjusted returns and sellers accepting post-pandemic pricing reality. The expansion occurred even as transaction volumes accelerated and investor engagement intensified, suggesting the market has moved beyond price discovery into an execution phase where capital flows to assets offering defensible yields.

Our Bay Macro Risk Index (BMRI) framework captures this dynamic precisely, discounting projected IRRs in markets where cap rate volatility exceeds historical norms while validating compressed spreads in cities with demonstrated demand resilience. The operational leverage inherent to hotel assets creates both opportunity and complexity in this environment. Unlike stabilized multifamily or industrial properties, hotels deliver returns through active revenue management, labor optimization, and brand positioning, as ⁵Ellsbury Group's analysis of hotel operational value creation emphasizes.

This operational intensity means cap rates in gateway markets must compensate investors not only for real estate risk but also for business execution risk, creating a premium that varies by operator quality, brand strength, and local demand characteristics. As Aswath Damodaran observes in Investment Valuation, "The value of an asset is determined by its capacity to generate cash flows, not by what you paid for it or what someone else might pay for it." Gateway hotels with superior operators can justify tighter cap rates through demonstrable NOI growth, while secondary assets face persistent spread widening regardless of location.

For sophisticated allocators, this bifurcation creates deployment opportunities in select gateway submarkets where cap rate expansion has overshot fundamental risk. ⁶PwC's US Hospitality Directions outlook anticipates RevPAR headwinds in early 2026 followed by sequential acceleration in the second half, suggesting near-term cap rate pressure may create entry points for capital positioned to underwrite through the cycle. Our BAS methodology identifies scenarios where elevated cap rates, when paired with credible operational improvement plans, generate risk-adjusted returns superior to compressed-cap-rate trophy assets. The key distinction lies in separating genuine operational upside from speculative repositioning, where stabilization timelines extend beyond financing maturities and liquidity becomes constrained.

Institutional Deployment Strategies Shift from Acquisition to Operational Alpha

As Asia Pacific hotel investment volumes prepare to cross $13.3 billion in 2026, according to ⁷JLL's Asia Pacific Hotel Investment Outlook, institutional allocators confront a bifurcated opportunity set that demands precision in both market selection and operational execution. Safe-haven destinations command premium valuations while emerging markets present relative value opportunities, yet extended due diligence timelines and heightened cost management focus signal a shift from expansion to optimization.

This dynamic creates distinct deployment challenges for different investor profiles. Sovereign wealth funds seeking scale in gateway markets face compressed cap rates and constrained supply, while opportunistic funds targeting secondary markets must navigate heightened execution risk in environments where operational missteps erode IRR more rapidly than cap rate expansion can compensate. The strategic shift from acquisition-led growth to performance optimization reflects broader capital cycle maturation that our BMRI quantifies through differentiated risk premiums across geographies.

As ⁸PwC's Hospitality and Leisure Deals 2026 Outlook notes, U.S. deal activity has remained steady but more selective, with strategic buyers accounting for the majority of transactions and focusing on differentiated assets rather than portfolio scale. This selectivity isn't risk aversion, it's recognition that in a constrained supply environment, operational alpha matters more than acquisition velocity. As David Swensen observes in Pioneering Portfolio Management, "Illiquid asset classes offer significant return premiums to long-term investors willing to sacrifice liquidity and tolerate uneven cash flows." The challenge for 2026 is identifying which illiquid hospitality investments genuinely offer return premiums versus those merely offering illiquidity without compensation.

For institutional deployment strategies, this translates to three distinct pathways with materially different BAS profiles. Core-plus gateway strategies accept 4.2-4.7% cap rates in exchange for stable cash flows and lower LSD, suitable for allocators prioritizing capital preservation over outsized returns. Value-add secondary market plays target 6.5-8.0% unlevered IRRs but require sophisticated asset management capabilities, where capex timing and brand conversion decisions drive returns more than purchase price. Opportunistic emerging market exposure offers potential for double-digit IRRs but demands rigorous BMRI-adjusted underwriting, as macroeconomic shocks can compress exit multiples faster than NOI growth can offset.

The critical insight is that deployment strategy must align with organizational capabilities, not just return targets. As Michael Porter notes in Competitive Strategy, "The essence of strategy is choosing what not to do," and for institutional hotel allocators in 2026, discipline around capability-matched deployment matters more than chasing headline cap rates or pro forma IRRs that assume flawless execution. The operational implications extend beyond acquisition criteria to portfolio construction and risk management. Allocators deploying into constrained supply environments must balance concentration risk against the economies of scale required for effective asset management.

A $500 million commitment spread across 15 secondary markets creates operational complexity that erodes net returns, while concentrating that capital in three gateway markets amplifies exposure to localized demand shocks. Our framework suggests optimal portfolio construction requires minimum 20% exposure to stabilized core assets as liquidity anchors, with the balance allocated across value-add and opportunistic strategies based on team-specific operational capabilities rather than generic return targets. This approach recognizes that in 2026's market, AHA derives from execution quality, not just market selection.

Implications for Allocators

The convergence of 12.6% quarter-over-quarter CRE transaction growth, 202 basis point gateway cap rate expansion, and $13.3 billion Asia Pacific investment volume crystallizes three critical insights for institutional capital deployment. First, hospitality's operational transparency and consumption-driven revenue streams create a distinct risk-return profile within CRE that justifies tactical overweight positioning for allocators with requisite asset management capabilities. Second, gateway market cap rate expansion represents repricing rather than distress, creating selective entry points for capital positioned to underwrite through early 2026 RevPAR headwinds toward second-half acceleration. Third, the bifurcation between core-plus gateway strategies at 4.2-4.7% cap rates and value-add secondary plays targeting 6.5-8.0% unlevered IRRs demands rigorous alignment between deployment strategy and organizational execution capabilities.

For allocators with established hotel operating platforms, current market conditions favor deployment into select gateway submarkets where cap rate expansion has overshot fundamental risk, paired with value-add secondary market opportunities where operational improvements can be executed within 18-24 month timeframes. Portfolio construction should maintain minimum 20% core asset exposure as liquidity anchors while concentrating value-add and opportunistic capital in markets where team-specific capabilities create demonstrable competitive advantages. Our BMRI framework suggests differentiated risk premiums across geographies will persist through 2026, rewarding allocators who can parse macro volatility from operational fundamentals.

Risk monitoring should focus on three variables. Treasury yield trajectories that could drive further cap rate expansion in gateway markets, supply pipeline dynamics in secondary markets where new development could compress exit multiples, and cross-border capital velocity that determines whether Asia Pacific's $13.3 billion investment volume represents sustainable allocation or transitory rebalancing. The 2026 environment rewards operational rigor over acquisition velocity, execution quality over portfolio scale, and capability-matched deployment over generic return targeting.

A perspective from Bay Street Hospitality

William Huston, General Partner