This article was sponsored by MIRA Real Estate. It appeared in the Global Investor 50 special section alongside the November issue of PERE magazine.
With elections in Canada, impeachment proceedings in the US, and social upheaval in South and Central America, politics in the Americas is making headlines around the world. However, the continued strong growth in the world’s largest economy is the critical factor in shaping institutional capital providers’ view of the region’s real estate market. PERE’s Stuart Watson listens in as Sylvain Fortier, chief investment and innovation officer at Ivanhoé Cambridge, Christoph Donner, CEO of Allianz Real Estate of America, and two members of MIRA Real Estate’s US team – head of the Americas, Eric Wurtzebach, and senior managing director Erin Ledger Beaupre – discuss how investors are identifying opportunities in a market that may be at a late stage in the cycle, but so far shows few signs of weakening.
The investment climate
Sylvain Fortier: Many investors are waiting for something to happen, a bit of a correction or some bad news, and it doesn’t seem to be happening. In Canada and the US, it doesn’t feel like there is any kind of panic from the existing owner’s point of view. There is money waiting to buy more, but many feel pricing is high so people are still waiting. Some want to see more certainty on politics, others want more certainty on interest rates, or whether other investors elect to sell.
Eric Wurtzebach: Many foreign institutional investors that are currently not invested in the US see news headlines and believe economic activity is not strong. However, when they visit, they realize that, regardless of the US political landscape, at the asset level the fundamentals are still healthy. Future US GDP growth is projected to be above 2 percent. When taking into account current geopolitical risks and projected GDP growth of other regions, on a relative basis the US is attractive from a risk-return perspective. It is one of the best real estate markets to invest in long-term despite the strong dollar.
Christoph Donner: Leverage levels are moderate and although we’ve seen significant construction in some markets, given the long-term trends I don’t think there is a supply issue in the US. We don’t feel a change in the interest rate environment would immediately create significant risk that an altered supply-demand dynamic could put investors under water.
On the equity side, we’re investing on behalf of European investors, so while currency hedging costs have come down somewhat compared to where they were six months ago, they are still significant and we have to earn those costs in our deals. That makes the core market harder to play in. We like to do deals at a certain price and so if we lose at a higher price we are fine with that. It’s really important not to chase the last dollar. An advantage we have in both our US and European platforms is that if we lose a deal on pricing on the equity side, we may still have a chance to provide the debt.
Identifying market opportunities
EW: As we get later in the cycle, it’s more important to be closer to the real estate because investor returns are more likely derived from improving the asset and generating net operating income through development, leasing and operations, rather than from financial engineering or cap rate compression. As a result, in the Americas our focus, alongside our clients, is on integrated operating platforms, not allocators and aggregators.
Erin Ledger-Beaupre: In the last 12-24 months, we’ve seen substantial growth in investment in niche asset classes like manufactured housing, data centers and healthcare. Ivanhoé Cambridge and other big Canadian pension funds moved first and then we saw more cautious offshore investors starting to come in. They are looking for asset classes that will deliver yield and where they can create value, but which will continue to perform across market cycles if something happens to cause a correction in the market. For example, in the last six to 12 months there has been increased interest in manufactured housing from a wide range of investors because it is underserved from a strategic capital perspective. There is a lot of opportunity for consolidation, the cash yield is very strong and the growth of the sector has continued to be strong across cycles.
SF: Retail and offices were our two main asset classes for 20 years, then in 2011 we started to add multifamily apartment buildings, and we’re trying to do the same thing with logistics now. Eventually we would like a four-legged table where every asset class would be 25 percent or so. We have invested a lot in logistics in the last three years. In some places it’s expensive, but you are often buying a portfolio in that sector, so if you need cashflow, lower risk and a bit of diversification on geographies then it’s still a good play.
CD: We like industrial, multifamily and demographically driven properties. Heavy capex sectors like office and retail are more difficult and we’re very cautious in terms of where we are investing. For instance, we made a big investment this year in an office building at 30 Hudson Yards in New York and that was a bond-type return with a long-term lease where the capex for the foreseeable future is manageable.
In addition, we capture some opportunities by expanding into build-to-core strategies. We feel comfortable taking the leasing risk in multifamily and logistics while protecting ourselves against construction risk by working with partners, and then holding the assets on a longer-term basis and generating a bit more return. In some smaller markets (‘18-hour’ cities) you can pick up a little bit of yield. However, not enough to earn the currency costs.
In addition, these markets are less liquid. Cities like Austin, Atlanta, Charlotte, Nashville, Minneapolis, Denver and Seattle and their respective states often offer tax incentives for companies to relocate there. In view of this, these cities/states have generally become more attractive for employers/employees and consequently more interesting to us as institutional investors as well. Scale remains a challenge as investing large mounts in these markets is somewhat more difficult.
Predictions for 2020
SF: More and more people are of the opinion that rates will be low for longer, and if they continue to stay low, or go down, then maybe it will open up more transactions in certain areas because that spread will widen again despite cap rates coming in. When we are late in the cycle and markets are pricy, diversification becomes important for investors. That may be diversification into a sub-asset class like manufactured housing, student or senior housing, or into preferred equity pieces that offer a good risk-return profile. More investors will also look outside of the big five US cities at the locations we used to call secondary and tertiary, but that are now viewed as growth cities, like Austin and Nashville.
CD: Noise and volatility from the 2020 presidential election may impact the financial markets but I remain hopeful that outside of this, the markets will remain steady. I’m optimistic that the trade dispute with China will be settled (for good) because it is strongly in the interest of both sides to find a solution. Lower rates are here to stay for longer. There remains a spread between the two-year and 10-year treasury bonds, which would indicate we’re not quite yet heading into a recession. If and when there is a slowdown or recession, it will hopefully be short and mild. There is clearly event risk in many markets globally and it will be interesting to see if the headlines around WeWork and failed tech company IPOs will have an impact on a hot market such as San Francisco, for example.
EW: In 2020, I expect more of the same. Everybody asks if we expect a recession, but the US economy has so far been resilient to numerous geopolitical events/risks and the significant political uncertainty in the US. I think we will see interest rates stay low, growth remain at 2-3 percent, and real estate will continue to represent a strong value proposition relative to other asset classes.
Ivanhoé Cambridge stands by WeWork
Partnership with troubled co-working provider will ‘benefit our whole portfolio,’ says Fortier
In recent months, WeWork’s aborted IPO and financing crunch have made headlines worldwide. Fortier insists Ivanhoé Cambridge is confident its strategic partnership with WeWork parent The We Company will pay dividends nevertheless. “We continue to believe in that even in this very volatile atmosphere that surrounds the company,” he says.
In May, the investor committed $1 billion to We Company’s newly formed real estate management and acquisition platform, ARK. The capital will be deployed to purchase office buildings for part occupation by WeWork, or in some cases by other concepts such as WeLive, alongside traditional office tenants.
Fortier argues that while the partnership will generate returns by adding value to the assets it buys, its most important benefit will be to enable Ivanhoé Cambridge to better comprehend and participate in the long-term trends reshaping modern workplaces and the real estate industry.
“We need to understand the co-working space, the flexible space, the branding and hospitality aspects of it,” he says. “That will benefit our whole office portfolio and maybe other types of assets, too. There are young companies out there that don’t have the need for large space, or the interest or intention to commit to a long-term lease, but are willing to pay a lot for flexibility. We felt we had to put more than a toe in the water. We needed to commit.”
The knowledge gained through the partnership can be used to inform a more customer-centered approach, he suggests. “What traditional owners have not done very well is to focus on the end users and the people who work for them. A lot of our occupiers are asking how we can help them to improve their space so they can attract and retain talent. Today we work on tablets and cellphones, but too much office space still looks like it did 20 years ago. We need to pause and ask whether that still makes sense.”