No recovery in U.S. property until 2017,” blared Reuters in 2009.
Analysts were fearful that commercial real estate prices would fall another 50 percent from the peak in 2007. Building prices were forecast to take at least six to eight years to recover. Vacancies were soaring. Local malls, shopping plazas and office complexes became overnight ghost towns. In April 2009, the mall as we know it died. That was the month Chicago-based General Growth Properties, the second largest mall owner in the United States, filed for bankruptcy.
There were no signs of stability. It was a terrible time to invest. No one in his or her right mind was touching commercial property investments. Real estate investors grew hesitant to invest again, fearful of another financial crisis like the one that wiped out trillions of dollars years earlier.
But there was immense value to be found at the time. We’d have been foolish to ignore the undervalued Class-A opportunities we would uncover, especially as the Federal Reserve cut interest rates to near zero, birthing a recovery in the economy and in commercial real estate, too.
Shortly after, we’d see capital inflow from foreign investors looking to escape the poor economic conditions and falling property value elsewhere, most notably from China.
In fact, over the last few years alone, Fosun International bought the 60-story One Chase Manhattan for $725 million. Beijing real estate mogul Zhang Xin took part in the $1.4 billion purchase of the General Motors office tower. Dongdu International (DDI) bought the David Stott Building for $4.2 million and the Detroit Free Press building for $9.4 million with plans of turning it into a $50 million retail and residential complex shortly after Detroit’s July 2013 bankruptcy filing.
And, for just under $2 billion—the highest price paid for a hotel—Anbang Insurance bought the Waldorf Astoria. But Anbang doesn’t seem to be finished buying. The company recently offered to buy Starwood Hotels for $13 billion, in an effort to break up its pending sale to Marriott International for $6.5 billion including debt. Anbang would later back out of the deal, though.
The timing of such purchases couldn’t have been better.
Softer Demand in the Market
Nowadays, seven years removed from the financial crisis of 2009, we’re told U.S. commercial real estate is slowing and that prices could reverse, given softer demand. Morgan Stanley predicts U.S. commercial real estate prices could be flat in 2016, as compared to previous forecasts of 5 percent growth.
Analysts are also concerned that income generated from such properties won’t be enough moving forward to keep investors happy and help maintain returns in an uncertain environment of slowing earnings and potential recession, as noted by Bloomberg.
The Urban Land Institute (ULI) believes transaction volume will trend lower over the next three years. Volume likely peaked in 2015 at $534 billion, and is expected to decline to $475 billion by 2018, they note.
As much as that makes sense, any slowdown is simply a natural evolution of a market that’s transitioned from the recovery stage to a more mature stage, according to Anita Kramer, senior vice president for ULI’s Capital Markets Center, as noted by Seeking Alpha.
But by no means is it setting off alarm bells.
No Cause for Panic
We expect to see a significant amount of continued growth on two powerful trends. One, capital inflow in a low-interest rate, high-yielding environment is tough to ignore. We’re not likely to see an aggressive move by the Fed with regard to interest rates, given true economic weakness.
And, two, we have 80 million other good reasons to believe we’ll see even more interest in commercial property. I’ll explain in just a moment.
But first, with such low interest rates, the United States is seen as a safer place to park foreign cash with lower overall risk. Not only that, changes to the Foreign Investment in Real Estate Property Tax Act (FIRPTA) in 2015 have made investing easier and a bit more attractive to foreign capital as well.
Global economic issues—such as an imploding Chinese real estate market—will continue to drive capital to the safe haven assets in the United States simply because our property market is one of the most stable and transparent in the world, too.
The other powerful trends are the U.S. Baby Boomers—80 million of them.
‘Tsunami of Spending’ on the Horizon
“We face a tsunami of spending due primarily to the retirement of the Baby Boom generation and rising health care costs,” said David Walker, comptroller general of the Government Accountability Office, as quoted by Fox News. “We’re going to have tens of thousands of Baby Boomers retiring every week over the next decade or so.”
That works out to more than 10,000 Boomers retiring each day. As they demand better care, new innovation and new growth, we’ll see further growth in health care real estate, as well. In fact, it’s why Talia Jevan Properties purchased the Lifeprint Health Center in Phoenix for $20.5 million.
First, the aging population is increasing the demand for medical office buildings. According to Bloomberg, sales of such properties hit $6.67 billion in 2013. That was the “second-highest total in 13 years.”
Second, “People over the age of 60 visit a doctor’s office twice as often as does the general population and are prescribed four times the number of prescription medications,” notes commercial real estate services firm Cassidy Turley. “Investors are clearly savvy to these trends. While sales volume for nearly all CRE product types is still hovering at 2004 levels, sales of medical office buildings posted a record high in 2012.”
Third, as millions of Americans pick up health insurance, “The demand for medical office buildings will increase by 19 percent by 2019,” according to the Urban Land Institute. “The need for an estimated 64 million square feet of additional medical office building (MOB) space in the coming decade dwarfs the 6.3 million square feet that will deliver this year.”
If we look at Maryland, for example, Baltimore’s growing population is demanding more medical services, as reported by Cassidy Turley. “There are currently 10.1 million square feet of medical office space in the Baltimore metro area. The market is 88.3 percent occupied at the moment, with only 1.2 million square feet of vacant space, including newly built facilities. New construction has become a necessity, as medical office tenants are now looking for quality space to deliver their services.”
We wouldn’t be surprised if Johns Hopkins Hospital and University of Maryland Medical System demanded a greater amount of space along the way as well.
While there are startling assessments that commercial real estate will slow, it’s not the time to panic. The opportunities afforded us from capital inflows and advancements in health care demand ensure any price declines will be short-lived.
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