Pointing to greater transparency and availability of information within the industry, deeper and more global capital pools, and the fact that the financial crisis didn’t include wholesale dumping of real estate assets, Kevin Gray ’85, lecturer in the practice of real estate at Yale SOM, asked a panel of veteran real estate investors whether the asset class has moved beyond cycles.
The initial responses were quite certain. “There are cycles in markets,” said D. Ellen Shuman ’84, founder and managing partner at Edgehill Endowment Partners. Tom Zacharias ’79, COO at W.P. Carey Inc., said, “Cyclicality is endemic with this asset class as it is with all others.” And Rob Gifford ’83, president and CEO of AIG Global Real Estate Investment Corp., echoed, “We’ve been through enough cycles that even with better information and different technology, there will be a time when things get overpriced and there will be a reckoning.”
Shuman sees Hilton’s recent sale of the Waldorf Astoria in Manhattan to Chinese buyers for $1.95 billion as unlikely to pay off as an investment. With such a high purchase price, prospective returns are inevitably lower. The experts see a fully priced market that could shift at any point. However, during an October 16 online discussion, they also cited a number of ways that cycles may be moderated.
Gifford framed the issue this way: “What is it that usually brings real estate to its knees? It’s debt and/or overbuilding. In the early ’90s, it was a combination. Certainly, in 2008, it was debt.” But, he noted, the unwinding in commercial real estate has been relatively methodical.
Shuman offered an explanation. “I think the benign interest rate environment has helped mitigate the cyclicality of real estate recently,” she said. For both investors and creditors, “[I]t has allowed you to hold onto your property, even if you have lost some occupancy.” When interest rates do rise, that will bring stress back into the system, Shuman warned.
Looking ahead, Zacharias said, “I think we are living in an environment where we are going to see more regulation of our financial markets as a result of the financial crisis.” But he and the other panelists pointed to upsides if the regulation has its intended impact.
Higher capital requirements could keep lending standards up, according to Gifford. “That could potentially mute the cycle,” he said. “I think the other area where regulation may dampen cycles is in more local zoning regulation.” The tendency toward tighter zoning can limit overbuilding.
That trend may mesh neatly with trend toward sustainable, transportation-friendly, mixed-use urban real estate that is especially popular among Millennials. “That is a very important demographic trend,” said Zacharias. “Employers want to set up offices in urban environments because they can get better talent. People of all ages…find the stimulation of the urban environment real.” While he doesn’t expect the death of the suburbs, he does see energy and innovation within the industry focusing on urban environments.
Gifford is directing some of his investing specifically to buying multifamily buildings in walkable neighborhoods, both in typically dense cities and in Sunbelt areas associated with sprawl, where neighborhoods with less car dependence have become extremely popular.
Of course, U.S. markets are not isolated from the rest of the world. Both capital pools and investment opportunities are global, according to the panel, but it requires local expertise to enter a market effectively, since world and even regional patterns may not hold in a given city. One rule that does seem to hold everywhere: there are few bargains to be had. Shuman said, “Most assets around the world are fully priced, so it is a very difficult time to be an investor in real estate or any other asset class.”