Through mid-2018, the student housing sector continues to attract institutional investment capital at a record pace. The acquisition marketplace reached new plateaus the last two years, with more than $10 billion closed in 2016 and over $8 billion in 2017. Assuming the $4.2 billion privatization of EdR by Greystar and Blackstone closes this year, together with other closed and pending transactions, 2018 should produce at least $8 billion in transaction volume for the third consecutive year. This compares to annual investment sales in the $1 billion to $2 billion range during the 2000s, and $2 billion to $5 billion range from 2010 through 2015.
A major trend impacting capital flow into student housing is desired diversification into niche sectors of commercial real estate by institutional investors. According to PREA’s 2018 Investor Intentions Survey, 51 percent to 63 percent of institutional investors are targeting retail and industrial assets, 69 percent to 79 percent are earmarking multifamily and office, but a meaningful number of investors are targeting student housing (14 percent), healthcare (14 percent to 17 percent) and other (14 percent to 23 percent) real estate sectors. These niche sectors are seen as yielding strong risk-adjusted returns, while also offering diversification benefits as these asset classes are less correlated to the economy than the four traditional sectors of multifamily, office, retail and industrial. Look to interest in these less-correlated niche sectors to further increase in the next 12 to 24 months as a growing number of investors see a recession on the horizon and will look to add or increase allocations to recession-resistant asset classes in their portfolios. The challenge will be for savvy investors to secure partnerships with experienced operators in these management-intensive spaces, as the number of such operators with institutional credentials, portfolios available to recapitalize and ability/capacity to accept new investment allocations is finite.
Another important trend in student housing investment over the past several years has been the significant number of portfolio sales. The steady offering of portfolio transactions has opened the market to foreign investors who don’t want to bother with international investments unless they represent a meaningful allocation of capital (hundreds of millions of equity minimum). The major sources of international investments in student housing recently have included sovereign wealth funds (such as ADIA, GIC), foreign pension funds (CPPIB) and private equity firms representing institutional and high-net-worth foreign investors (Investcorp, Safanad, Mapletree, Allianz).
Appetites of these types of groups in student housing has been fueled by: (1) their general familiarity with the asset class (many of the decision makers at those types of firms were educated in the U.S. or have had children attend American universities); (2) income, valuation, diversification and risk/return characteristics of the sector; and (3) a steady flow of portfolio transactions that meet their minimum equity investment requirements. Market conditions driving down cap rates and investment yield expectations in other sectors have also increased interest in higher yielding niche sectors.
Investors have been placing equity capital in the student housing sector in record volumes over the past three years primarily through: (1) joint Ventures with student housing operating companies as the general partner and the investor as the limited partner, (2) co-mingled funds with a private equity firm as the fund sponsor and a group of investors as the limited partners or (3) direct investments with the investor as the owner utilizing a third party student housing property management company. Amongst those vehicles, the largest majority of capital in student housing has been deployed through joint ventures. There is no comprehensive source that monitors and measures cumulative flows of equity capital into the student housing space, but the best public source of data that captures a large percentage of transaction volume is Real Capital Analytics.
The outlook for investment in student housing into the foreseeable future continues to look strong, particularly in comparison to other real estate asset classes. This conclusion is influenced by several key factors including: (1) steady university enrollment growth (at strong universities), (2) a shrinking pipeline of new supply, (3) increasing capital flows into the sector (will hold values and cap rates relative to other asset classes) and (4) the general economic outlook (as student housing has proven to be a recession-resistant asset class).
The recent trend of rising interest rates has not produced a meaningful change in valuations in the student housing sector. This is because of two main factors: (1) most core buyers are at low leverage (zero to 50 percent LTV), which minimizes the impact of interest rate changes on equity yields, and (2) institutional investment and capital flows drive asset pricing, and there is definitely more capital looking to invest in the student housing sector than there are available assets to acquire. That bodes well for valuations into the future.
At America’s strongest universities—our company defines these as public universities with 15,000+ students that play FBS football—enrollments have on average been increasing in the 1 percent to 2 percent per year range in recent years. That is strong demand, particularly given the typically high barriers to entry to find developable land in close proximity to campus in many of those markets.
New development has been cyclical in recent years, with peak delivery years exceeding 60,000 new beds in 2013 and 2014 and completions in the mid-to-upper 40,000s in 2015 through 2017. Approximately 30,000 beds were scheduled for delivery in the fall of 2018—a level at half to two-thirds of levels earlier in the decade—and the lowest volume since the end of the great recession in 2011. That market prudence is a good sign as well.
With the growing institutionalization of America’s niche sectors of real estate, it is expected that the majority of domestic and international institutional investors in the future will make a conscious allocation of capital to these niche sectors (student housing, seniors housing, health care real estate, medical office buildings, self-storage, data centers, etc.). Given the relative size of these niche sectors as compared to the four main food groups and coupled with strong underlying fundamentals in these niches, such a shift in asset allocation will undoubtedly help fuel out-performance by niche sectors, including student housing, into the foreseeable future.
Frederick W. Pierce, IV serves as president and CEO of Pierce Education Properties.