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| John Oharenko |
The Real Estate Capital Institute's® Director, John Oharenko, predicts, "It's always prudent to be cautious, as CRE investors attempt to understand the economic direction of 2024. The overall fundamentals of the nation's commercial real estate economy are generally healthy, so the risks are prudent and manageable."
Since most investors took advantage of locking into lower interest rates, often below 4%, their focus remains on improving cash flow performance vs. capital markets. Yet, transaction volume will selectively increase based on the following market conditions:
Economic Uncertainty:
Risk and reward spans every era of investing. This year, investors will
focus on the upcoming elections, inflation, international instability,
unregulated immigration, energy prices, labor shortages, etc. On a local
and regional level, property owners face slackened demand and uneven rent
growth, rising supplies (e.g., multifamily and industrial), increasing expenses
(e.g., insurance and property taxes), and competitive obsolescence.
As for universal risks, for example, few investors believe that mortgages will reach last year's 8% high. Many economists predict that the Fed will drop interest rates perhaps two to three times.
The Fed's two-percent annual inflation target seems to be within reach, as GDP growth simmered to about 2.5% in 2023. However, international risks, including Moscow's invasion of Ukraine and the Middle East crisis, remain a wildcard – particularly for food and energy prices.
Local and regional risks for real estate investors pose some unique challenges. Few owners expect property taxes or insurance costs to decrease. Municipalities need funds as the federal government continues to cut spending.
Depending on the region, climate change and other related weather incidents plague insurers. Alternatively, rent growth should continue to aid certain sectors, namely multifamily, as affordable home ownership remains further out of reach for many Americans.
Asset Repricing: Ample funds remain
on the sidelines for properly priced realty projects. As investors adjust
to the four-percent ten-year treasury benchmark, forming the denominator for
"safe" investing, the profit strategy focus shifts to an acceptable
return on equity at this level.
In the case of CRE,
steady cash flow, combined with rent growth and inflation protection, adds 200
to 500 basis points or more in risk-adjusted yield premiums. Meaningful
pricing discounts must occur to hit such yield targets compared to the peak
pricing levels of early 2022.
For instance, 10% -15 % for apartment and industrial
properties, 15% -25 % for retail assets, and above 25% for office properties
that suffer from declining demand in many areas of the country.
Motivated Parties: Distraught investors
tired of suffering unacceptable profit margins over longer timeframes comprise
the bulk of motivated sellers. Now, they're looking to unload such
investments. Projects typically held beyond two to five years or more
beyond the projected holding period fall into this category, as market
conditions were substantially different when these investments
originated.
Just as importantly, lenders carrying debt on challenged
properties are running out of patience, not only from the profitability
standpoint but also due to pressure from nervous bank regulators demanding to
unload such loans or requiring higher loan loss reserves.
In particular, local and regional banks carrying higher priced short-term floating rate debt that burdens project economic performance fall into this category.
The Real Estate Capital Institute® is a volunteer-based
research organization that tracks realty rates data for debt and equity yields.
CONTACT:
John Oharenko, Executive Director
director@reci.com / www.reci.com
The Real Estate Capital Institute®
Chicago, Illinois USA 60622
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