Royce Dugan's Blog: TESTING THE WATERS: Wealthy Investors Remain Eager But Selective Real Estate Buyers

TESTING THE WATERS: Wealthy Investors Remain Eager But Selective Real Estate Buyers

More Than Two-Thirds of Respondents in Barclays Survey are Bullish on CRE, but Credit Availability is Still a Challenge for Potential Buyers

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By Randyl Drummer

December 2, 2009

Cash buyers are currently the supreme rulers of a sparse and rocky CRE transaction landscape. Although transaction sheets don't yet reflect much activity, a growing number of surveys and reports suggest that high net-worth private investors are expected to be among the first to jump off the fence and sweeten their portfolio allocations with attractively priced property investments.
The latest evidence is a report released this week by Barclays Wealth, a global wealth manager with offices in 25 nations, in conjunction with the Economist Intelligence Unit, which polled more than 2,000 high-net-worth individuals (HNWI) around the globe in August and September.
Of those surveyed for the report titled “Prospects for Property: On Solid Foundations?” 68% said they plan to increase their stakes in commercial real estate. Just over one-quarter of wealthy investors believe real estate has better long-term prospects than other asset classes, including both commercial and residential, and a little more than half expect the value of their real estate investments to rise over the next two years.
Investors queried for last month's 2010 Emerging Trends in Real Estate survey by PricewaterhouseCoopers and the Urban Land Institute (ULI) related similar anecdotes. One respondent told PwC that HNWI, cloaked in secrecy behind the walls of family offices, appear ready to form “old-school jumbo syndicates to go after some great deals.”
“They’ll move ahead of pension funds and form the leading edge of private investors coming back into the markets,” an investor opined.
Wealthy individuals are a core part of Marcus & Millichap's client base, and without question, "There's a tremendous amount of [HNWI] money and equity out there that's waiting for bargains and there's no shortage of investors," Bernie Haddigan, managing director for the national retail group for Marcus & Millichap, tells CoStar Group. However, most of the few properties that are actually trading now are low-risk, well-located and well-leased "safe bet" assets, Haddigan noted. Wealthy investors are taking a pass on many assets, especially apartments, that bear the faintest whiff of downside risk or investment mystery, such as occupancy challenges and less-than-ideal locations -- unless the price is rock bottom.
"Trading is focused on either high quality and yield oriented, or junk that's being sold on a price-per-pound basis," Haddigan said. "There isn't much change in activity yet, but I do know that there are a lot of people out there who are really excited at the prospect of buying bargains over the next year or two."
Haddigan said "sure-thing" assets like single-tenant net lease retail is the most popular in the short run for these investors, especially drug stores such as Walgreens and CVS, dollar stores, auto parts and other necessity-based retailers. Sales of well-located apartment projects, still largely flush with cheap Fannie Mae and Freddie Mac financing, remains popular among wealthy buyers, but most transactions are in the sub-$10 million range, he said.
According to CoStar Analytics, individual investor activity in multifamily sales volume fell from $1.29 billion, or 17.5% of investments, in third-quarter 2007 to $228.8 million, or 10% of all investments, in third-quarter 2009. But individual investor activity appears to be picking up so far in the fourth quarter, already exceeding third-quarter volumes, according to early data accumulated by CoStar.
Retail net lease investment activity by individual buyers also appears to be picking up steam in late 2009. In third-quarter 2007, CoStar recorded just $3.9 million in single-tenant net lease deals by individual investors, or 23.6% of all triple-net transactions. By the third quarter of 2009, the explosion in store closings had driven up acquisitions of net lease properties by individual investors to $63.5 million, or 46.4% of that niche of the investment sales market. So far in the fourth quarter, individuals have bought about 71% of all net lease transactions with more than $40 million in sales volume.
Only the most sophisticated HNWI investors are buying office buildings, which require a lot more rent forecasting, leasing and financing savvy, Haddigan said.
"Other than the safe bets and the better in-fill deals, there's just too much uncertainty out there right now for wealthy investors to feel comfortable jumping in on marginal real estate. But there's no question there's a lot of wealthy investors out there getting ready."
As per normal in this market, however, no good news comes without some sort of caveat. Nearly three-quarters of wealthy investors who described themselves as bullish on commercial property in the short term also said the high cost and weak availability of credit is hampering their investment efforts, according to the Barclays survey. Among prospective residential investors, 60% said tight financing is preventing them from taking the plunge.
“High-net-worth investors find real estate to be an attractive investment for a variety of reasons, including the potential for both capital appreciation and rental income,” said Brian Nick, Barclays investment strategist. “But we have to weigh those potential benefits against the fact that the real estate market is neither liquid nor transparent, which are also desirable characteristics for assets in a portfolio.”
Now that global real estate prices seem to be stabilizing, wealthy investors are again thinking about increasing their allocations to this asset class,” added Michael Crook, Barclays alternatives strategist at Barclays. But, "it’s clear from the survey results that the demand from high-net-worth investors for real estate will depend on the availability of credit and the sustainability of the global economic recovery.”
Although the returns are potentially great, some advisors worry that HNWI with portfolios that are already overweight with real estate may be taking a big risk by ramping up their real holdings. Almost 40% of survey respondents with assets of $50 million or greater have more than half of their portfolios invested in real estate rather than a healthy and balanced investment portfolio, Barclays officials said.
“The survey has revealed that investors are holding a much higher proportion of their wealth in real estate than we would normally recommend,” said Barlays Chief Economist Michael Dicks. “This suggests a real need for people to consider diversifying their portfolios into other asset classes in order to reduce risk.”
In other Barclays survey results, about 16% of interviewees regarded the U.S. as the most promising commercial and residential investment real estate market, with China and the United Kingdom tied as the second-most appealing markets. India followed closely in fourth place, with France, Spain, Canada, Brazil, Germany and Australia rounding out the top 10 markets.
As one respondent told a PricewaterhouseCoopers interviewer, wealthy Asian and Middle Eastern buyers could be actively bottom-fishing for discounts and core-plus returns by late 2010 and early 2011 in 24-hour cities like New York.