The commercial real estate market isn’t in a boom or a bust phase, but somewhere in the middle, where words like “flattening” and “plateau” have entered the lexicon, but are mixed in with optimism as investors seek ways to deploy abundant capital. That’s some of the investor sentiment expressed via a survey administered by Real Capital Markets (RCM), a global marketplace for commercial real estate transactions) and in interviews conducted by NREI.
“For the past decade, we’ve experienced unprecedented levels of investment activity, where each year established another new record. … It’s important to note how far the market has come and that in these good times, plateaus are part of a healthy cycle,” says Tina Lichens, COO of Real Capital Markets, in RCM’s National Investor Sentiment Report.
Investment sentiment remains strong in the first quarter of 2019, according to Kathy Farrell, head of the commercial real estate division at Atlanta-based bank SunTrust.
“I think investors still see U.S. real estate as a good investment option,” she says. “Hundreds of billions of dollars of dry powder are available to be invested in commercial real estate, and people are actively seeking areas to invest that.”
With abundant capital remaining in the market, 2019 should be an active investment year, notes Chris Ludeman, global president of capital markets with real estate services firm CBRE.
“Liquidity will continue to drive transactional volume in 2019,” he says. “There’s a noticeable desire for people to be in the debt stack because they think it’s a safer late cycle strategy.”
Transaction volume during the first half of the year might trend slightly below the first half of 2018, but by the end of 2019 Ludeman expects total transaction volume to be similar to last year’s figure. U.S. commercial property sales rose to the third-highest annual level on record in 2018, according to RCA statistics.
In responses to its survey, RCM also found the following sentiments:
- Multifamily remains the preferred asset class, with industrial a close second.
- Steadily increasing interest rates won’t change investors’ position as buyers in 2019.
- Underwriting is more conservative due to rising rates, maturity of the cycle, the pullback of Chinese capital and other factors.
Of those surveyed by RCM, 60 percent chose “the middle of the spectrum” when asked if the real estate cycle was in a boom or a bust phase and still had significant optimism due to historically strong performance among asset classes such as multifamily and industrial.
Ludeman, who recently met with about 200 commercial real estate investors in New York, says there’s an inclination toward more thoughtful pricing and disciplined underwriting, but the bid-ask expectations remain fairly aligned, he notes.
Optimism in multiple sectors
“Multifamily was a big surprise to the upside (last year) not just in volumes, but also in the fundamentals,” Ludeman says. “Multi will continue to be, I believe, a robust product type not just in core, but probably in B and C areas.”
Industrial will be the darling this year, both Ludeman and Farrell note, with plenty of money allocated to it amid continued growth in e-commerce.
“You just can’t build enough of it or find enough of it to meet the demand,” Farrell says. And with e-commerce still just a small percentage of the overall retail market, the demand for e-commerce fulfillment centers will continue to grow, she notes.
As in the past, global investors will continue to favor office assets in gateway cities, according to Ludeman.
The RCM survey found that value-add plays continue to draw investors, but the pool of viable transactions is shrinking, while rising construction costs create a challenging environment. Investors who can find the a functionally obsolete property that can be repositioned without significant capital outlay or investors who can find an architecturally obsolete property priced well below replacement cost will still find opportunities with this strategy.
Niche asset types, such as data centers, continue to be popular, although some niche products that are more labor-intensive, including assisted living and skilled nursing facilities, might face headwinds due to the high cost and availability of labor, according to Ludeman.
Caution enters the market
There’s some heightened caution as the real estate cycle extends beyond a decade, especially in the area of new construction, notes Farrell.
While “2018 was a very strong year of construction activity; we expect 2019 will continue to be a strong year for construction,” rising land and labor prices, plus the trade tariffs, are impacting the sector.
“We are seeing situations where developers are choosing not to move forward because they are having a hard time getting a deal to pencil out,” Farrell says. “Maybe not the first half of the year, but in the second half of the year, I’m wondering if you’ll start to see construction level out or drop off.”
On the capital markets side, however, the competitive environment of recent years has continued into the first quarter of 2019.
“There’s no shortage of capital available for investors and borrowers,” she notes. “It’s a very competitive environment today.”