developing trends: institutional re capital in 2014 · the bubble has 5 “millennial” years left...

Developing Trends: Institutional RE Capital in 2014

Thursday, May 8, 2014

Michael J. WhiteExecutive Vice PresidentCBRE I Capital Markets

The CBRE Joint Venture and Structured Capital Team is unique in

the industry; they are 100% focused within this specialization and

engage no other transaction profiles. As such, their expertise and

knowledge of the trends, contacts and capital resources within this

specialty is commensurately unparalleled. Senior team members

each have over 20 years of focused expertise and relationships in

this specialization, with well over $1billion of transaction

credentials identified in each senior practitioner. The Team engages

a national practice with key personal in multiple geographic

locations.

4 Major Trends Already Rocking Your

RE World!

BIG TREND #1:The Anomaly of Real Estate Valuations

Let’s Begin with Two Questions:

1. When interest rates rise, what logically happens to real estate values?

2. On average, have Real Estate values gone higher or lower since last year?

Interest rates went UP over 100 bps in Summer of 2013!

http://www.rcanalytics.com

CRE Values have been skyrocketing since interest rates increased in May 2013!

Cap rates are DROPPING as interest rates INCREASE?

WHY?The reason:  Mike’s Maxim!

The event with the greatest impact on your future will ALWAYS be…

… the one you LEAST anticipated!

Mike’s Maxim:

http://www.rcanalytics.com

Reason #1: Foreign Capital!!

http://www.rcanalytics.com

Asian Momentum is Strong – they are the NEW WAVE!

Why the US? Look what they pay for RE back home!!!

US Cities Targeted by Foreign Capital in 2013-14

Reason #2: In the past year, domestic institutional capital has left

pricey First-Tier Core Markets (the Sexy Six) to seek better yields elsewhere!

If Domestic Institutional Capital is being pushed out of the Coastal Crescent markets and into Secondary and Tertiary markets, what should (logically) be happening to real estate Cap Rates in the tertiary/secondary markets?

Cap Rates in these markets are going

DOWN!

BIG TREND #2: Real Estate Capital is shifting toward Longer Investment Horizons

Blue Basement: <2.7% 10 year yield

Green Attic: >2.7% 10 year yield

Average since 1900: 4.9%

Current Rate: 2.7%

10 year yields: More room in the Basement or the Attic?

1790 1900 2010

USA 10-year Bond Constant Maturity Yields (IGUSA10D) since1790!

Dull Mathematics as follows:

$30M Project Value (6% cap rate)$1.8M NOIHow long does it take you to generate a 7.5% unlevered Return?

Flat Cap Rates at 2.0% annual revenue growth: 3.75 years

25 Basis Point Cap rate DROP w/ 2.0% rev. growth: 1.5 years

25 Basis Point Cap rate RISE w/ 2.0% rev growth: 6 years

Comparative Hold Required:Cap Rate Compression vs. Rent Growth

How longer investment terms safeguard targeted IRRs

1) Returns are going to depend more on precise operations than on cap rate compression: equity will shift from market allocation partners (funds) to operating partner profiles (direct sponsors).

2) Rent growth doesn’t build value as fast as cap rate compression: IRRs will become less important than equity multiples over longer investment horizons.

3) Transaction Velocities will diminish substantively: when the grain grows more slowly, you will harvest less often!

4) Strong job and revenue growth locations (cash-flow focus) will be prioritized over institutional liquidity markets (residual focus): shift

from Major Urban Core concentration to ASPIRATIONAL CITIES.

Four Implications of Flat to Rising Cap Rates –Institutional Capital has figured this out ALREADY!!

BIG TREND #3: Reversal: Employers are now Relocating to access Employee Demographics!

Peter Drucker ca. 1959: A “Knowledge Worker” is defined as one who works primarily with information or one who develops, integrates or distributes knowledge

in the workplace.

Web Designer – App Programmer – BioTech – Renewable Energy – FinancialAnalyst – Connectivity – Cloud Systems – Data Integration – ChemicalEngineering – Logistics Analysis – Peer-to-Peer Networking – AutoCADEngineers – 3D Rendering – Systems Engineers – Online Marketing –Database Integration – Data Mining – Alternative Energy – Cryogenics –Geological Exploration – Internet Optimization – Hybrid Technologies –Digital Media – Computer Graphics – Urban Design

Basic Idea: Knowledge Worker (USA) vs. Process Worker (outsourced)

The Future of Real Estate: Why Millennials will shape RE function & demand!

The Millennials are the largest demographic EVER in US history! 29

Source: New MediaandMarketing.com, “The Millenmial Generation”, David Burstein

Ignore this DEMOGRAPHIC at your EXTREME peril!

What’s different about the “Millennials”?

“If you are building anything without imbedded fiber-optic Gigabyte connectivity you are building Class B product by definition.” Tim Perry, CEO, North American Properties - April 29, 2014

This is why retailing is shifting to the Internet!

Millennials will define the US workforce in 10 years!

What they want: Millennial Lifestyle Priorities are QUALITATIVELYoriented!

Objective

Millennials Aggregate in SPECIFIC Locations focused by: Quality of Life

Fact: High-Growth Cities are the SAME Cities with the Highest Millennial Population Demographics!!

Compare these Maps: Do you see a Lifestyle Choice correlation?

• Collaborative: “Connected” Urban, Work & Social Environments• Transit Savvy: Light Rail, easy access, short commutes, no SMOG!• New Economy Focus: Media-Digital-Energy-Technology-Computer-Leisure-Services• Lifestyle Friendly: Planned spaces, diverse recreation, cultural & social venues• $-Quality Benefit: Less personal income spent on Housing-Transportation-Taxes-

5 Defining Features of “Aspirational Cities”:

Institutional RE Capital is increasingly focusing on Aspirational Cities!

2. DENVER, CO

Employers are Relocating to these cities to access Employees! (not to Miami, Chicago, NY, Boston, LA or San Francisco! )

Momentum Job Growth Markets 2009-2013

Which is why: In the past year, domestic institutional capital has left the

pricey First-Tier Core Markets (the Sexy Six) to seek better yields elsewhere!

BIG TREND #4: The Urban Bubble Has 5 Years Left!

The Largest Increase in Renter Demographics is the Millennials

Where are Millennials Going? To Urban Lifestyle Locations!

This migration concentration caused urban metro rents to soar!

Urban Core Rent Growth – July 2011 (U.S. Peak)

Urban submarkets averaged > 6% annual effective rent growth.

Source: Axiometrics Inc. 2014

Compare the 6%+ Urban rent growth stats in 2011 to….

Urban Core Rent Growth – March 2014The average has dropped to 1.8%, which is below the U.S.

benchmark of 3.1%.

Source: Axiometrics Inc. 2014

… less than 2% Urban rent growth NOW in the SAME markets!

National Effective Rent Growth: Urban vs. SuburbanWhat happened to the Urban Core?

-8.0%-6.0%-4.0%-2.0%0.0%2.0%4.0%6.0%8.0%

10.0%

Apr

-09

Jul-0

9

Oct

-09

Jan-

10

Apr

-10

Jul-1

0

Oct

-10

Jan-

11

Apr

-11

Jul-1

1

Oct

-11

Jan-

12

Apr

-12

Jul-1

2

Oct

-12

Jan-

13

Apr

-13

Jul-1

3

Oct

-13

Jan-

14

Annual Effective Rent Growth

Urban Core Suburban

Source: Axiometrics Inc.

Urban core submarkets are currently underperformingsuburban submarkets, but they significantly outperformed

earlier in the recovery/expansion period.

Source: Axiometrics Inc. 2014

2010 2015

2015 2020

Urban Residential demographics are already SHIFTING!

Ouch!

Rent>Buy Transition occurs in 30’s!

Historically, renter profiles shift to homeownership in their 30’s!

Source: http://www.theatlantic.com/sexes/archive/2012/12/poverty-poses-a-bigger-risk-to-pregnancy-than-age-does/266348/

Millennials have the highest education demographic in history: 63% have College Degrees! They’re having children in their 30’s, not 20’s!

The American Suburban Single Family Homeowner Aspiration is still alive – it’s just been pushed back 10 years for most Millennials!

• Low Quality of Inner-City Urban Schools

• Traffic-Noise, Night-club ambiance, “Balcony-Babies”?

• Proximity/Accessibility of age-equivalent playmates

• Security/monitoring benefits of enclosed backyard

Key Factors that are now pushing Millennials back into the Suburbs!

The Big Question

Will aging baby-boomer “empty nesters” exchange places with the Urban Millennials and thereby sustain future urban lifestyle demand?

Boomer Migration to scenic locales has tripled in the last 20 years! They’re leaving the metro-urban concentrations in droves!

The attraction of young people to urban lifestyles is inverted in Empty Nesters who migrate to non-metro scenic areas after the kids leave!

Empty Nesters – once migrated – prefer to age in their “retirement” place! They don’t go Urban. That’s why the “Urban Bubble” is flattening. The Bubble has 5 “millennial” years left before it starts to fade…!

Source: AARP Survey – Home and Community Preferences of the 45+ Population, November 2010

Thank You for Being a Great Audience!