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As macroeconomic turmoil has roiled financial markets and institutions retreat from real estate, wealthy individuals have become the dominant buying class.

Private investors were the most active buyers for worldwide commercial real estate last year, purchasing $455B in properties, or 41% of the global investment total, according to a Knight Frank global wealth report.

For the first time on record, private buyers’ share of the market eclipsed those of institutional investors, which bought a total of $440B last year, a 28% decline in their investment activity in 2021, the Knight Frank report found. Private wealth from the U.S. in particular is projected to be the most active of those investors this year as well. Private buying activity fell just 8% from last year, by comparison.

“In order to navigate the higher inflationary environment, investors may pivot towards commercial real estate due to its strong growth potential, particularly in assets with indexation,” Knight Frank associate Antonia Haralambous wrote in the report. “Sixty-nine percent of wealthy investors expect growth in their portfolio this year, with confidence driven by asset repricing, perceived value opportunities and an expected economic rebound.”

The hunt for value is evident in which asset classes the investors put money into. Private buyers bought $62.5B of retail properties last year, 9% more than in 2021, and $30.6B of hotels, a 17% increase. Office was the second-most-active asset class, with $84.1B of purchases, a 4% dip from 2021. Private investors spent $194.9B on apartment properties last year, a 13% decline from 2021, per Knight Frank.

Private buyers’ newfound perch atop the CRE investment pecking order reflects the aftermath of the Federal Reserve’s interest rate hikes, which have changed the risk calculus for investing. All-cash buyers were increasingly the last bidder standing for properties at the end of last year, Bisnow previously reported, as lending dried up.

 

Source:  Bisnow

Mortgage Rates Keep Escalating

Mortgage rates have kept rising over the past month, with one outlet reporting 30-year loans averaging more than 7% this week for the first time since October.

Mortgage News Daily Thursday reported 30-year, fixed-rate mortgages averaging 7.1%, though a weekly lender survey by government-backed loan agency Freddie Mac put the 30-year loan average at 6.65% for the week ended March 2. Most mortgage rate reports are averages based on national lender surveys, and Freddie Mac has noted there is now a wide range of rate offerings.

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“As we started the year, the 30-year, fixed-rate mortgage decreased with expectations of lower economic growth, inflation and a loosening of monetary policy,” Freddie Mac Chief Economist Sam Khater said in a statement Thursday. “However, given sustained economic growth and continued inflation, mortgage rates boomeranged and are inching up toward 7%.”

Freddie Mac noted 30-year, fixed-rate loans averaged 3.76% and 15-year loans averaged 3.01% at the same point of 2022. “Now that rates are moving up, affordability is hindered and making it difficult for potential buyers to act, particularly for repeat buyers with existing mortgages at less than half of current rates,” Khater said.

Annual inflation remains near 40-year highs while declining in recent months to 6.4% in January. The Federal Reserve continues to raise its key lending rate in efforts to bring inflation closer to 2%, sparking rate hikes in many types of consumer and business loans.

It comes as the gap widened in the home ownership rate between Blacks and whites in the United States.

“As we started the year, the 30-year, fixed-rate mortgage decreased with expectations of lower economic growth, inflation and a loosening of monetary policy,” Freddie Mac Chief Economist Sam Khater said in a statement Thursday. “However, given sustained economic growth and continued inflation, mortgage rates boomeranged and are inching up toward 7%.”

Freddie Mac noted 30-year, fixed-rate loans averaged 3.76% and 15-year loans averaged 3.01% at the same point of 2022. “Now that rates are moving up, affordability is hindered and making it difficult for potential buyers to act, particularly for repeat buyers with existing mortgages at less than half of current rates,” Khater said.

Annual inflation remains near 40-year highs while declining in recent months to 6.4% in January. The Federal Reserve continues to raise its key lending rate in efforts to bring inflation closer to 2%, sparking rate hikes in many types of consumer and business loans.

It comes as the gap widened in the home ownership rate between Blacks and whites in the United States.

Black-White Home Ownership

 

Source:  CoStar

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Multifamily will likely experience little distress this year, despite a deceleration in debt origination since the beginning of 2022.

Activity has “gradually decelerated” since Q1 2022, the second-best quarter on record for debt originations, according to an analysis from Newmark, which also notes that “preliminary loan figures overstate the severity of the slowdown” in Q4.

“The year-over-year comparison is severe, but the fourth quarter of 2021 was a very high bar to match,” the new report notes. “Projected volumes for the fourth quarter of 2022 are still the third-best fourth-quarter performance.”

The Sun Belt accounted for 57.9% of overall multifamily investment in 2022, led by Dallas, Atlanta, Houston and Phoenix, which together accounted for 21.6% of annual volume. Of the top 25 markets by volume, New York, Nashville and Philadelphia posted double-digit year-over-year sales volume growth.

But while December 2022 may have experienced a greater-than-usual seasonal boost as borrowers sought to capitalize on sharp declines in Treasury yields and spreads, Newmark says the question remains as to whether that momentum carried into the first quarter of this year.  With that said, wth the exception of loans originated in 2021, mark-to-market LTVs “are well-contained,” something that can’t be said for many office and retail vintages.

Banks leaned in heavily to the asset class in 2022, with bank exposure to loans secured by multifamily properties increasing by $11 billion from January 2022 to January 2023. But Newmark says this is unlikely to continue unabated, creating a liquidity gap in the market. Banks are also tightening lending standards and shrinking the profile of both assets and sponsors with whom they’re willing to lend.

“Banks are likely to be less active as they digest their expanded loan books, and the GSE’s will be active but static on volumes,” the firm notes. “The recent decline in spreads and reduced volatility in bond yields could incentivize market-driven lenders, such as CMBS, debt funds and life insurance companies to be more active on the margin. There is already some evidence of this in the corporate bond market, with new issuance picking up.”

The market may be also subject to more ups and downs as a result of lending caps on GSEs and a move by the entities to more “mission-driven” lending.

“As the market grows, they are providing less proportional and more targeted liquidity support, which makes a repeat of 2009 less likely but also leaves the market subject to greater ‘normal’ volatility,” the report notes.

Record quantities of debt are on track to mature by 2024, and Newmark says borrowers will face markedly higher borrowing costs as loans mature.

“Higher debt costs on refinancing will lower return for all and will give rise to a range of reactions within the market,” the report notes. “Some borrowers will choose to pay down debt, especially if the asset has appreciated meaningfully. Others will refinance the principal or partially pay down, whereas in a lower cost of capital environment, they would have re-levered. Still others will be unable to make the math work and will need to pursue a loan modification, return the keys and/or source rescue equity at an appropriate price point.”

Despite that, the asset class remains a top destination for capital globally.  International investment in US multifamily assets as a percentage of total US commercial real estate totaled 40.3% in 2022, up 990 basis points from the 2015-2019 average of 30.4%. And among the US regions, total returns in the Southeast have outpaced the broader market on short, intermediate and long-term bases. Garden-style properties throughout the Southeast have been a particularly strong niche within the sector, outpacing the US multifamily index by 440 basis points over the past decade.

 

Source:  GlobeSt.

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It’s been a tremendous start to 2023 for hotel investors who are enjoying record sales for quality assets in highly desirable and growing markets, according to a report from JLL.

The $850 million sale of the Diplomat Beach Resort (pictured above) in Hollywood, Florida, was the third-largest single-asset sale in US history.

The recent closing of the AC Hotel Phoenix Biltmore set a record price-per-key for upscale select-service assets in the Phoenix market.

Kevin Davis, Americas CEO, JLL Hotels & Hospitality Group, said in prepared remarks that investors are buying into the thesis that long-term growth trends in certain markets will outweigh near-term capital markets dislocation.

“As a result, these investors are willing to buy at cap rates that are lower than the cost of debt because the growth story is so compelling.”

 

The ‘Hottest Asset Class’

Brandon Lewe, vice president of Sales at Ten-X, tells GlobeSt.com that overall, hotels are currently the “hottest” asset class on Ten-X, with momentum building year over year, further highlighting a strong hotel sales outlook.

“Buyers love the category,” Lewe said. “Last year hotels had the highest trade rate (62%) of any asset class and this year, even more investors want to buy.”

Hotel properties had twice the number of bidders per property as the next most popular asset class, he said. “And the trade rate has climbed 10 percentage points – to 72% – for properties that have gone to auction this year.

“We see more inventory coming online and that inventory is high quality, coming from institutional investors. Two of the largest U.S. institutional investors are bringing an influx of new inventory to our platform. ‘SMILE’ states, especially Texas, are hot locations for sellers.”

 

Extended Stay Cap Rates Approaching Multifamily

Matt McElhare, senior director, Extended Stay Brands at Choice Hotels International, tells GlobeSt.com that generally, “everyone is looking to add exposure to the segment given industry performance and profitability relative to traditional hotels.”

Extended stay at a lower price point provides a different return and risk profile than a traditional hotel or upscale hotel.

“We’ve seen cap rates approaching multifamily levels of the last two years,” McElhare said.

“The demand picture (2x supply, emerging trends providing tailwinds e.g. relocations, reshoring of supply chains, infrastructure, etc.) is really strong, which, combined with the difficulty adding supply in the near/medium term due to higher cost of capital and construction costs, is creating a favorable picture for high performance continuing in the extended stay segment.”

He said the performance outlook is bolstering demand for the acquisition of existing extended-stay hotels despite low cap rates and high valuations, particularly in areas of growth such as the Carolinas, Florida, and Texas.

“Lenders have historically treated hospitality financing as one big bucket but we’re seeing encouraging changes there as lenders recognize the different risk/return profile and think about the segment differently,” McElhare said.

McElhare tells GlobeSt.com that activity for large institutional capital in the space has remained elevated despite the higher costs of capital and construction hard costs as well as evaluations for existing extended-stay product.

Higher Occupancy Means Hiring Challenges

The American Hotel & Lodging Association (AHLA) and Oxford Economics recently reported that it expects hotel-generated state and local tax revenue to set a record at $46.71 billion this year.

Additionally, it sees average U.S. hotel occupancy reaching 63.8% in 2023 – just shy of 2019’s level of 65.9%.

“Staffing is expected to remain a challenge for many U.S. hotels in 2023, as the industry continues to grow its workforce back to pre-pandemic levels,” AHLA said in a release.

Nearly 100,000 hotel jobs are currently open across the nation as of Q4 2022, according to Indeed, even as “national average hotel wages were at historic highs of over $23/hour and hotel benefits and flexibility are better than ever,” according to AHLA.

 

Source:  GlobeSt.

 

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It’s a bit of same ol’, same ol’ for now in multifamily deal-making two months into 2023 – not a whole lot.

“Buyers are cautious, facing higher financing costs and downgraded projections of future rent growth,” writes, Paul Fiorilla, director of research, Yardi Matrix.

Cap rates averaged 5% at year-end 2022, up from the low- to mid-4% range at the beginning of the year, per Matrix.

“Most apartment owners are holding on to properties unless there is a reason to sell, such as a death, the dissolution of a partnership, or a capital event like a maturing mortgage that creates a need for restructuring,” Fiorilla said.

He said he expects distress to increase.

“Banks have become conservative with the prospect of a widely projected economic downturn, so borrowers are facing both rising rates and less leverage.”

There are several scenarios that will lead to distress in 2023, according to the report.

Properties that were financed at historically low rates in recent years coming up for maturity at higher prevailing rates; properties whose interest rate cap has expired and are now facing a large jump in debt-service payments; and properties that have a downturn in performance.

Indeed, despite the sector’s issues, many investors view multifamily as a safer place to park capital, Fiorilla said.

“Transaction activity will pick up when market conditions return to some semblance of stability and market players believe they can underwrite with a higher level of certainty than exists today,” he said.

Sellers Could Forgo Refinancing and Sell

Ian Bel, managing principal and CEO of Olive Tree Holdings, tells GlobeSt.com that market transaction activity will begin to recover in the second half of 2023.

“Given where debt and rate cap pricing are today, we expect to see an uptick in sellers that are opting to forgo refinancing and put their assets on the market,” Bell said.

“While volatility remains in the treasury rates, the swings have become more muted, allowing more certainty and visibility into the debt pricing. We are optimistic that this reduction in volatility will encourage more lenders to come into the market and hopefully reduce spreads.

“When the capital markets begin to thaw, lender demand is likely going to be largest for stabilized cash flowing assets in Tier I markets.”

Sellers Still Want 2021 Prices and Exit Cap Rates

But John Drachman, co-founder, Waterford Property Company, does not believe that transaction volume on the multifamily side will recover anytime soon.

“The bid-ask spread right now is extremely wide as buyers deal with the rising interest rates mixed with the near-term, choppy property fundamental outlook and sellers still want 2021 prices and exit cap rates,” Drachman said.

“In many ways, both sides are waiting for the other side to blink which has slowed the market. You also have many sellers who locked in long-term fixed-rate financing in 2020-2022 which does not make them feel forced to sell at all.

“You will see transaction volume pick up early next year when the realities of the current cycle hit and groups with short-term floating rate debt feel the pressure to sell. Until then transaction volume will be down.”

Fewer Sellers Means More Competition

Robert Stepp, Principal with Stepp Commercial Group, tells GlobeSt.com that in 2022, Stepp Commercial Group had a significant number of listings with Los Angeles-area sellers who were frustrated with rent control and other problematic apartment legislation.

Stepp Commercial Group completed over $200 million in transactions throughout greater Los Angeles last year and helped identify 1031 exchange opportunities in several states including Arizona, Florida, and Texas.

Clients were looking to trade into states that provided a stronger ROI for the long-term and fewer restrictions, Stepp said.

“We see that trend continuing into 2023 as owners seeking a passive income want to enjoy stability and realize wealth management goals,” he added.

“The market experienced a slowdown in transactions in late 2022 and that is continuing in Q1 2023. With interest rates rising, sellers are having to look at their asking cap rates and adjust their pricing accordingly.

“The good news is that with fewer sellers, there is more competition for the assets on the market. While the listings aren’t resulting in as many offers as a few years ago, they are still garnering strong attention from fewer buyers who have a significant amount of capital to put down, many paying all cash.

“Ultimately, many major markets across the nation continue to experience a dearth of rental housing options. With fewer construction starts due to higher development and labor costs, we can expect to see more multifamily trades later this year as confidence in the market is likely to return as we ease into an adjusted selling environment.”

Staying Committed to Multifamily Sector

Steve Figari, co-founder and managing partner at Shoreham Capital, tells GlobeSt.com that despite an overall slowdown across the industry, markets like Florida and the larger Sun Belt region, are still experiencing significant demand.

“We are focusing on areas with positive supply/demand dynamics and long-term growth rates,” Figari said. “We are also looking at deals that may arise from special situations, including distress, where there are opportunities to recapitalize and reposition properties.”

He said that Shoreham remains committed to the multifamily sector because, “with this approach, we believe we will emerge with an irreplaceable portfolio as market fundamentals stabilize.”

Secondary Markets Could be First to Get New Capital

Mike Madsen, vice president of acquisitions and economics, RealSource Properties, tells GlobeSt.com that month-over-month changes in macro rental rates have normalized since August but lag in Consumer Price Index trailing 12-month measurements.

“The case for the Fed to achieve their desired soft landing is building as employment remains resilient,” Madsen said.

“If the Ukraine-Russia conflict deescalates during the first half of the year that could also put downward pressure on energy, transportation, and food prices. Although uncertainly remains, the record levels of capital ready to bounce could move quickly back into buy mode in Q3, aiming for a discount from peak prices.

“We expect the 10-year rate might front-run a Fed pause, opening a window to lock in lower commercial mortgage rates from the peak. A soft landing and top in the Fed Funds rate in Q3 could be a scenario the lights could turn on as quickly as they turned off as lender cautionary levers and spreads bake in less risk of weakening rental demand.

“Capital could first jump into select secondary metros with strong rent growth expectations without oversupply threats.”

Renters Won’t Be Becoming Home Buyers

Joe Smazal, senior managing partner, Interra Realty in Chicago, tells GlobeSt.com that in the middle-market space, he’s still seeing healthy sales velocity for well-located assets in Chicagoland.

“Private capital remains interested in acquiring multifamily assets for long-term ownership, and investors have been encouraged by strong rental market and operations in Chicago,” according to Smazal. “We also don’t expect to see much attrition from renters going into first-time homeownership this year.”

Relative to other markets that were more popular over the last couple of years, Chicago has shown a lot of stability and, depending on the specific location within the city, still presents opportunities to acquire deals with cap rates at or above interest rates, Smazal said.

“If we see rates come down and/or less trepidation from the macroeconomic uncertainty, we’ll see the floodgates open.”

 

Source:  GlobeSt.

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‘Near record’ amounts of capital are sitting idly on the sidelines amid economic uncertainty, and how (and how quickly) it’s deployed this year will be “major factors” in overall sales volume, according to new research from Colliers.

In a new report, the firm says that value-add, opportunistic, and debt capital look to be the most active, with debt plays yielding “equity-like returns.”

“Liquidity can be found, but from different sources,” the report notes.

Investors are turning to defensive strategies, with multifamily and industrial garnering the most activity as “safe harbors” due to strong fundamentals and durable cash flows. Among alternative assets in Colliers’ survey, life science, data centers, and student housing ranked first, second, and third  due to “demographically driven upside and strong fundamentals,” which analysts predict will continue to draw investor interest.

Grocery-anchored retail is also expected to remain resilient while luxury hotels have posted “incredible” fundamentals.

And as for office, “trophy properties are vastly outperforming all others, demonstrating the need for upgrading and occupiers’ focus on ESG-compliant assets,” the report notes. “This need for new product will be difficult to meet, with capital investment preferring to upgrade existing assets. Conversions, repositioning, and recapitalizations will all be common themes throughout the year as the office sector evolves. Distress will emerge.”

 

Source:  GlobeSt.

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As tensions between the US and China increase, the newest front of division had been in the air, accompanying balloons claimed to be spy vehicles.

But there is much happening on the ground, literally. A dozen US states have been looking to forbid sales of real estate to Chinese nationals or companies.

Texas is one example, according to a report from Agence France-Presse (AFP).

“The US state of Texas is considering barring Chinese citizens from buying property on national security grounds — and as tensions with Beijing rise other states may follow suit. The Texas proposal also would bar Russians, Iranians and North Koreans from owning real estate. But the principal target appears to be Chinese nationals.”

There are 28.8 million people in the state. Of them, 1.4 million, or just under 5%, are Asian, said AFP, whether US citizens with Asian heritage or people who have green cards and permanent residence status. Just shy of 250,000 are Chinese.

China is a significant trading partner for the state, according to US government data cited by the Texas state government. As of the latest data, which is from 2019, 3.3% of Texas exports go to the country. That was down 34% from 2018.

But while economics is an important subject, so is national, and state, security, with foreign national purchases of land, often agricultural, in proximity to military bases.

“’We don’t want to have holdings by hostile nations,’ Gov. Ron DeSantis of Florida said in a news conference last month,” according to the New York Times. “Gov. Glenn Youngkin of Virginia made it part of his State of the Commonwealth speech soon after, urging lawmakers in his state to prevent ‘dangerous foreign entities’ tied to the Chinese government from purchasing farmland.”

 

And there is also concern about agricultural land for its own sake. Last year in California, a bill that passed both the state assembly and senate, but that wasn’t signed into law, “would prohibit a foreign government from purchasing, acquiring, leasing, or holding an interest, as defined, in agricultural land within the State of California.”

The prohibition wouldn’t have applied to any land purchased before 2023.

“In order to secure the integrity of California’s agricultural land due to the effects it has on global food security, and in order to address the potential of foreign government control of California’s agricultural land and natural resources, it is necessary for this act to take effect immediately,” it further read.

But the Texas bill is constructed differently. It would apply to individuals, even if not connected with a government, and would extend even to purchasing a home.

Such bills potentially raise a number of legal issues, such as discrimination against groups based on race or ethnic background and also the federal government’s primary role in managing relations with other countries.

China has criticized such bills, as Reuters reported.

“’Generalizing the concept of national security and politicising economic, trade and investment issues violate the rules of market economy and international trade rules,’ spokesperson Mao Ning said at a regular press briefing.”

 

“I want to stress that China-U.S. economic and trade cooperation is mutually beneficial in nature. Over the years, Chinese enterprises have invested in the United States and made important contributions to promoting domestic employment and economic development in the United States,” said Mao.

 

Source:  GlobeSt.

 

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It was a rough fourth quarter for commercial real estate brokers in South Florida, as property sales plunged 55% compared to a year ago, according to property data firm Vizzda.

There were $5.2 billion in commercial real estate sales of at least $1 million each in the tri-county region, down from $11.6 billion in the same quarter a year ago. The number of transactions fell 40% to 631. The average price of each deal also fell.

The two main factors that led to a dramatic drop in sales were the reluctance of buyers and sellers to agree on a price and the lack of bank financing, said Paul Tanner, founding partner of Fort Lauderdale-based Las Olas Capital, which invests in commercial real estate. Lenders have started asking for much more equity in deals, often making them unfeasible, he said.

“We started feeling it [the slowdown] in late August and by Sept. 15 it was pencil’s down,” Tanner said. “The lending institutions wanted to see how interest rates would play out, how the recession would play out and no one was willing to be bold.”

Rising interest rates impact commercial real estate prices because they make debt more expensive, which reduces profit margins for buyers. It also increases the expenses for development, which was already impacted by rising construction costs. Tanner said many developers were slow-rolling their projects rather than moving forward aggressively to close on land and obtain a construction loan.

“Capital markets are currently in a period of price discovery largely driven by debt markets, not underlying fundamentals,” said CBRE Executive Managing Director Josh Bank, who oversees Florida. “And although U.S. commercial real estate investment volume fell from 2021’s record levels, 2022 was still the second-highest year on record with South Florida ranked in the top five markets for annual investment volume.”

Ryan Nee, senior VP for Marcus & Millichap in Fort Lauderdale, said there’s a price gap between buyers and sellers that has slowed transactions. Sellers want the prices of early 2022, but they’re largely no longer available. Buyers are seeking significant discounts, as not only have interest rates increased, but a dramatic spike in insurance costs for commercial real estate in recent months has eroded their profit margins, he said.

“The brakes have been put on and it’s hard to bridge the gap,” Nee said. “The Fed tapering rate hikes has added some calm to the market, but buyers want transparency on what the cost of debt is going to be.”

Multifamily

Vizzda broke down the transaction volume by category. The largest decline was in multifamily, plunging 72% to $1.2 billion. Despite the dramatic increase in rent in South Florida, fewer buyers were able to snag an apartment complex.

Nee said the fundamentals for multifamily in South Florida remain strong, with rising rents, a growing population and relatively low vacancy rates. Yet, the market is still impacted by interest rates and insurance costs, as well as higher property taxes.

Office

The second-largest decline was in the office market, with sales falling 65% to $455 million, according to Vizzda.

Tanner, of Las Olas Capital, said it’s virtually impossible to get a term sheet from a bank for an office acquisition. Many lenders feel the sector is too risky because many companies are permitting remote work and may downsize their office space.

Nee said Class A office space has been performing well in South Florida, because for every company that downsizes there’s another one moving into the market to occupy more space. Yet, buyers and lenders are still uncertain about the future of office and that has slowed transactions.

Retail

Sales of retail property dropped 31% to $1.1 billion. Nee said vacancy rates remain low for retail in South Florida and the population growth will continue to drive demand for space in that sector.

The retail market has done very well in South Florida, as sales are up for many stores and restaurants, said Barry M. Wolfe, senior managing director of retail in South Florida for Marcus & Millichap. However, rising interest rates still put a damper on the number of deals.

Industrial

The industrial market was the least impacted by the slowdown, as sales declined only 11% to $1.14 billion. Nee said vacancy rates are near record low for industrial in the region, there’s tremendous demand from tenants such as e-commerce firms and there’s a limited supply of new development. Those strong fundamentals kept industrial deals going, despite the economic headwinds.

Outlook for 2023

Nee said he expects the number of deals to pick up in the second half of 2023, but prices won’t return to the peaks from early 2022. The first wave of deals will probably be properties with maturing debt, as the owners may decide it makes more sense to sell than to refinance with a higher rate, he said.

“Debt maturing will be the number one catalyst for sales in the first half of this year,” Nee said.

Tanner, of Las Olas Capital, said more deals will take place once the Federal Reserve stops raising rates. After all, banks need to lend to make money.

“Everybody is sticking their head out of the cave and checking the weather out there and looking for a thaw,” Tanner said. “By the second half of this year, we will be back to fully ramped up.”

 

Source: SFBJ

Ron Osborne-Top 3 Producers 2022

It is a true honor to be named one of Sperry Commercial Global Affiliates’ Top Producers for 2022, for the second year in a row.

This is by far is one of my highest achievements so far in the 40 years of brokerage and would not be here without the support of my fellow SperryCGA Affiliates thoughout the company’s 62 offices.  I want to thank both Mark Hinkins and Rand Sperry for their continued help and advice on difficult and complex transactions.

Looking forward to 2023 and challenges of navigating the rough waters ahead like I have always done for my clients over the last 40 years of brokerage.

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There’s no denying that uncertain financial times lie ahead. A recent poll by Bloomberg cited that 70% of economists predict a mild recession in 2023, following moderate growth the previous year. The U.S. economy faces the headwinds of increasing interest rates, stubborn inflation, a stagnant job market, and weak market exports abroad.

Despite these troubling signs, however, those in commercial real estate enjoy a unique position. There’s far less leverage in the consumer and financial sectors than during the Great Financial Crisis, and plenty of liquidity remains ready and able to deploy in long-term vehicles. The overall uncertainty will lessen demand and potentially unearth value-add opportunities, and different asset types will experience different momentary signs of distress while others will experience boosted demand.

Overall, prices and demand are shifting, and the time may be nigh for those looking to invest in real estate, whether for the first time or for those who make their livelihood. These seven ideas to keep in mind will keep the investor prepared to face 2023 with awareness and agility, well-positioned to strike opportunities when the iron is hot.

1. Trouble Unearths Opportunity

In times of distress, opportunities usually arise. Assets or markets facing headwinds today may eventually develop into solid, long-term holding investments. Good real estate fundamentals (location, location, location) remain essential even in challenging economic cycles. Those who can shore up their capital nicely will be best prepared to take advantage of opportunities as they arise. If you’re in a position to take advantage of low prices in well-positioned asset types or markets, next year may be the time to invest and many great investors often say the outcome is won at acquisition.

2. Capital Costs will Likely Stabilize Soon

This last year, the Fed’s continual interest rate hikes increased overall cost of capital, making debt and equity much more expensive. These hikes resulted in lower leverage, higher debt service, and greater discount rates, which lowered net present values or created higher yield requirements. Additionally, fixed income yields increased and, when adding in the risk premiums associated with CRE, added to required property yields (or cap rates).

Number shifts like these aren’t so bad when they’re infrequent, but the Fed’s aggressive measures to curb inflation have made deal-making much more expensive. However, the latest increase to between 4.25 and 4.5% in mid-December points to a deceleration (the last increase was 75 basis points), a trend that will hopefully continue into 2023.

The cost of capital will likely stabilize as rate hikes taper off – encouraging stakeholders to start investing again. Additionally, a massive supply of capital seeking placement means plenty of liquidity. We’re still seeing demand continue to bid up deals to healthy values, particularly for good buys in good markets. Now’s the time to get your ducks in a row and prepare for quick action if you want to access good deals ahead of the competition.

3. Real Estate Buffers Against Stubborn Inflation

Real estate, as an inherently longer-hold investment vehicle, remains a haven that better buffers against stubborn inflation than other capital markets, thanks to its predictable cash flow. Lease terms that allow for underlying rent increases connected with rising costs or annual/regular rate increases in both long-term and short-term leases (e.g., in offices and multifamily) allow landlords to adapt more quickly to rising costs and keep up with inflationary changes.

Even though inflation is finally (hopefully) tapering, commercial property represents an excellent long-term option. But don’t forget: operational expenditure also inflates, so lease structures where tenant covers all or a portion of expenses can be important.

4. Now’s the Time to Lean on Your Broker

Partnership and expertise are more important than ever. Your broker is your partner in deal-making and serves as an essential business partner as you navigate changing valuations and asset performance. Brokers provide detailed in-market knowledge and economic cycle experience and make it their business to know what’s happening in the sector – so why go it alone?

In an uncertain market, now is the crucial time to partner with someone who can find you the best comps, source the best data, and find the best buyers for your listing or next investment option. Additionally, in times like these, brokers often are better at finding off-market opportunities, which can be acquired at opportunistic pricing if buyer can navigate unique circumstances.

5. Assess Tech Stacks and Optimize for the Best Tools

In a lean market, businesses need to cut overhead spending to focus on managing costs and optimizing the best possible tools and headcount for task efficiency. Running your business affordably is essential before venturing into the market. A lean, efficient tech stack can empower you to manage business operations while minimizing spending successfully. Prioritize technology that saves time, determine what’s essential and what’s fluff, and if you can find one software that solves multiple business needs, all the better.

6. Solidify Relationships with Capital Sources and Financial Partners

Now’s the time to foster closer relationships with your capital sources, lenders, and financing partners. It’s essential to maintain these connections – they will allow you to collectively stay more agile and make smarter, faster decisions as the economic climate changes.

Open communication with these parties will position you to act fast when the time is right, ready to strike on value-add opportunities as soon as they emerge.

7. Back to Basics: Understand Your Brick-and-Mortar

This may seem like a no-brainer, but it’s even more essential to understand your tenants’ day-to-day realities. Get to know their business operations, keep a pulse on market happenings, and maintain a steady flow of communication with your operators.

A clear understanding of the present and fundamentals of your tenants’ businesses will open your eyes to potential changes and allow you to make strategic moves or adapt as needed. Additionally, clear communication is more likely to set your tenants at ease and make them more likely to renegotiate and continue their leases with you.

The Bottom Line

We’re long-term bullish on commercial real estate. With open eyes and an agile, ready-to-act team, we’re confident that the savvy investor will discover valuable ROI diamonds in the rough. These tenets are, at their core, essential elements of well-run commercial real estate operations, even in prosperous economic times. However, in turbulence, it’s all the more important to stick to your investment principles and – as always – consider the long-term while resisting short-term distractions.

 

Source:  Global Banking & Finance Review