Many people see commercial real estate as the “promised land” in terms of real estate investment, being attracted by institutional credibility, relative stability, and high return on investment. However, the real estate world operates in cycles and buying in at the wrong time could mean making far less than you initially thought; and potentially not even coming out whole.
Consequently, wondering if it’s a good time to invest in real estate is a multi-layered question that the prudent investor should constantly be asking. Here are a few of the ways you can approach the question.
The American Real Estate Market
To start the conversation, let’s look at some data from an international survey conducted by finance firm Deloitte in 2019. Covering real estate investors around the world, it showed that despite enhanced anxiety about trade tariffs, interest rates, and tax reform, as many as 97% of real estate investors said that they were increasing their real estate allotments in 2019. US commercial real estate investors reported that they intend to increase their investment by 13% over the next 18 months – the second highest increase worldwide, behind Germany.
Importantly, in the Deloitte survey it was institutional investors who are reporting the highest propensity to increase their real estate commitment. This kind of heavy-weight investment in CRE tends to create its own center of gravity around which other participants in the industry orbit, and from which they derive benefit from the increased activity.
Consequently, non-institutional investors can be optimistic about allocating more to CRE, confident that there will remain liquidity in the market. Additionally, investors may consider it to have improved standing as a credible alternative to stocks, particularly in light of the ongoing stock market rollercoaster.
What do changes in the stock market have to do with commercial real estate? The perception of instability in stocks and the immediacy of their tradability means people are less likely to commit their investment dollars there, where returns can be heavily influenced by the news cycle, political environment, and other factors. The more sedate world of commercial real estate becomes more attractive.
There is also majority consensus that we are in the latter stages of the real estate cycle. Cap rates continue to compress, and IRR expectations have become slimmer as a consequence. For many, this has pushed pricing too high and prudent mid-market sponsors are beginning to consider alternate strategies as they seek opportunities. Investors are placing greater scrutiny on sponsor track records as the market matures, and are putting greater emphasis on those who have survived, or thrived, through prior downturns.
Real Estate Investing Now
With awareness that the current CRE bull run has been one of the longest in recorded history, there remains confidence that the time is not quite yet for a downturn. That said, real estate investors, having seen interest rate hikes negatively impact activity, can only cautiously welcome recent Fed indications that ‘gradual’ rate hikes may be postponed. While keeping the cost of funds stable, which is good for CRE, the Fed is signaling an increased likelihood that the overall economy might be closer to recession than earlier expected.
The forecast remains one of cautious optimism. Investors may want to take an even closer look at the asset classes they consider and move more deliberately into those most likely to weather any downturn that may come within the next two to three years. Looking more critically at major metropolitan areas with large supply pipelines, and following institutional migration into secondary markets might be a useful defensive strategy going forward.