Wells Fargo: Economic Growth Likely to Bolster CRE

Current favorable economic conditions should extend through 2019, supporting commercial real estate next year even as the cycle reaches its 10th year, said Wells Fargo Securities, Charlotte, N.C.

The economy grew solidly during the third quarter, putting real GDP on pace to increase 2.9 percent for the year, which would make 2018 one of the strongest years of the expansion, the company’s Third Quarter CRE Chartbook said. Wells Fargo predicted 2.6 percent real GDP growth next year, which it said should boost commercial real estate.

“Overall, demand for commercial real estate appears to be strong,” Wells Fargo said. “Property prices have appreciated in each month since January 2011 and valuations are now 25 percent above their prior peak level. Despite those gains, higher property prices do not appear to be dissuading investors.”

Real Capital Analytics, New York, reported commercial real estate volumes exceeded $152 billion in the third quarter, making it the second-strongest quarter of the nearly decade-long expansion. In addition, cross-border capital has increased as slower global growth boosts U.S. commercial real estate’s relative attractiveness.

Last year’s tax reform may play a role in the recent transaction volume pickup. “Overall, the effects of tax reform should continue to be a net positive for economic growth and be especially beneficial to the commercial real estate industry as lower tax rates translate into higher risk-adjusted returns,” Wells Fargo said.

As part of the new tax law, economically distressed communities declared “Opportunity Zones” can receive preferential tax treatment. This will likely draw significantly more capital into the industry in 2019, which will further support property valuations and restrain cap rates even as interest rates increase, Wells Fargo said.

Under the new law, capital gains taxes from investments in an Opportunity Zone can be deferred and partially reduced if the buyer holds the property until 2026 and capital gains on the property will be tax-free if it is held for 10 years. “The net effect of this should be to pull some of the roughly $6 trillion in estimated untaxed capital gains off the sidelines and direct it towards properties and businesses in the nearly 9,000 designated census tracts deemed economically distressed throughout the country,” the ChartBook said.