JLL: Investment Sale Volumes Cool as Real Estate Risk Appetite Tightens

As the appetite for real estate risk tightens, investment sale volumes are cooling in the latter stages of the current cycle, said JLL, Chicago.

“This is evident across equity and debt strategies,” the JLL Third-Quarter U.S. Investment Outlook said, noting the pace of fundraising is down 2.5 percent this year and real estate dry powder in North America has “plateaued” at $152 billion.

“Value-add remains the favored strategy for raising and deploying capital as opportunistic funds are challenged,” the report said. As a result, opportunistic funds now sit on 21 percent more dry powder than value-add funds, but have deployed only half the capital year-to-date.

Investors are shifting toward debt strategies as an “alternate path to yield,” JLL said. “Life companies are on pace to have another historic year of lending and debt fund dry powder has expanded to record levels this year; traditional lenders are tightening lending standards and limiting exposure to construction loans, large single-asset loans and higher-risk assets.”

JLL noted while market volatility continues to trend lower, implied real estate market volatility is higher in the near-term than the economy at large and investors now price a “marginally higher” risk premium into their real estate investment calculations. “This comes amidst waning capital appreciation and a near-certain rate hike in December,” the report said.

Though investors still like real estate in the current yield-starved environment, the nature of investment and the preferred positions and structures of real estate is changing, JLL said. This decreases conventional single-asset activities and increases larger entity-level investments, strategic joint ventures and more complex recapitalizations.

“While still in the early stages of this shift, it is already evident in investment activity,” JLL said, noting recapitalizations have increased nearly 80 percent this year and cross-border investors are diversifying into new sectors via large portfolio- and entity-level investments.

“Capital demand for real estate globally remains at record levels and is favoring U.S. product,” the report said. “However, this capital is sticking closer to investment criteria and underwriting opportunities more conservatively. Thus, to work toward targets while managing for risk and return requirements, entity-level and debt activities will comprise a larger share of real estate investment in the remainder of the cycle. This will make liquidity gaps more apparent in the quarters to come.”