Savills Studley: CRE Could Benefit from Economic Volatility
Despite recent macroeconomic volatility, several factors could lead to another good year for commercial real estate-especially compared to other markets, said CRE tenant representation firm Savills Studley, New York.
These factors include a strong U.S. dollar, real estate’s illiquid status, late-2015 tax changes and investor rebalancing, said Savills Studley Chief Economist Heidi Learner.
“The U.S. is one of the only countries that has begun monetary policy normalization, with the first increase in the Fed Funds rate having occurred in December,” Learner said, noting that 10-year U.S. Treasury rates now exceed similar bonds in Canada, the U.K., France, Germany, Italy, Spain and Japan among others. “To the extent that higher government yields in the U.S. support further U.S. dollar strength–particularly relative to currencies at risk of further devaluations, such as the Chinese yuan–the currency impact of [a real estate] investment in the U.S. can provide an added source of return for overseas investors.”
Learner also noted that with more than one-third of the Euro area’s government bonds yielding less than the -0.3 percent deposit rate, more traditional and theoretically less risky assets may be off the table for investors, which would favor CRE.
Additionally, in times of trouble, real estate’s status as an illiquid investment may become a positive, Learner said: “The very illiquid nature of most real estate investments means that when the sky is falling, real estate is usually at the bottom of the ‘sell’ list. [And] there are few, if any, automated platforms for matching buyers and sellers of commercial real estate and the process of securing financing limits how quickly transactions can be completed.
“U.S. commercial real estate may also benefit from changes Congress made at year-end that affect taxation of real estate upon disposition, Learner noted. “Qualified foreign pension funds will now be able to invest in commercial real estate without facing a tax on gains upon sale, while foreign entities will be able to increase their holdings in publicly traded real estate investment trusts from five percent to up to 10 percent before triggering tax upon sale of their real property interests,” she said.
Investors may need to increase their REIT investment later this year when real estate moves from its current investment industry subgroup under Financials into a new Real Estate sector this August, Learner said. Non-mortgage real estate falls into a new sub-category as well.
“Does all of this point to continued acceleration in commercial real estate activity and a sustained move upward in sale prices per square foot? Not necessarily,” Learner said. “[But] it’s important to highlight that to date, there’s been little slowing of net income growth on a per-square-foot basis–a metric that has moved fairly steadily upward as cap rates have declined.”
Learner noted that current risks include underwriting standards that will tighten from current levels and cap rates currently priced to perfection. “But even if U.S. commercial real estate were to weaken from current levels, chances are the sector will still outperform most long-only investment alternatives in the coming months,” she said.
