Is my thinking off?
So I will preface this by saying I’m somewhat of a noob here. Been in the industry for 2 full years, now an associate and have some good experience.
Why does it seem like everyone is panicking saying it’s going to be such a tough year? I will also add, I don’t work at a developer although we do have a few LP developments
although it’s tough to sell deals right now, pretty much all of my firms deals are performing, growing NOI, and maintaining occupancy well. Even if we have to wait 18-24 months to sell our deals, we are still making money and holding AUM. I see why the panic on the sell side, but deals are generally performing so why are some people acting like the sky is falling?
I could be totally wrong here though, like I mentioned, don’t have a shit ton of experience
Your thinking is pretty clear to me. And I agree, it just hurts valuations and makes deals a bit more inaccessible due to prices on debt and properties. But still definitely tons of opportunity.
I think it'll depend a lot on asset class and market concentration; this may make the good plays better (comparatively) and the bad plays worse. I.E., I do primarily multi acq in sunbelt markets, which should perform well enough in a mild recession scenario due to secular tailwinds. As a result, I'm still chasing deals at a time when some are pencils down. Not sure I'd be so comfortable were I building/buying office in coastal markets or tertiary market retail.
That being said, I've also not run across a lot of people with a real "sky-is-falling" attitude yet. Even what I've heard from people at big firms (which could very well be just posturing) is that it's still a possible to do deals, if you can find any with decent legs. I'm also not a font of experience so YMMV
As others have said, it's driven by asset class / risk profile / market. I don't think many are panicking yet as there isn't market evidence to panic, but most will agree it's going to be a tough year and could potentially be a tough few years for funds which have deployed a lot over last two years.
I'm in Europe and focus on heavy value-add / ground up development investments. Right now we're seeing huge geopolitical uncertainty, which is causing issues with pretty much all aspects of our investments (costs, values, financing etc). A lot of processes have failed within the last 3 months, and it's clear assets are no longer worth what they worth 6 months go. Because many notable processes are being pulled or falling through rather than completing, nobody can say with conviction what assets are worth in a lot of markets. We're looking at anything from a mild to serious recession depending on how Russa acts this Winter, while it could also lead to huge cost inflation for energy intensive raw materials (on top of already huge cost inflation seen over last 12 months). Layer over this then that it's getting much harder to predict where rents and yields will be in 3-4 years and you're in a position where entry values (land / buildings) are getting destroyed to compensate for the various conservative assumptions (increased contingency, conservative rent assumptions, wider yield, lower LTC and increased all-in cost on financing etc). Sellers are still looking to get what they could have gotten 6 months ago which is no longer achievable.
I focus mostly on multifamily which is supported by strong demographic trends in certain markets, but we still need to factor in the above uncertainty. For those that focus on office / retail, they've even more headaches to deal with given neither have had sufficient time post-covid to demonstrate their resilience. For hotels, people are still trying to work out what the future of business travel is, and ecommerce growth concerns is feeding through to increased caution on industrial. This adds further uncertainty / risk to be factored in, all which hit value.
Taking all this together, people who were planning to sell assets within the next 12-18 months are going to have a tough time hitting the number they had in their mind, and those who have capital to deploy are going to have a tough time getting deals done until vendors realise their assets are worth potentially a lot less than they were (land in particular will be hit hard). I don't think many are of the "sky is falling" attitude yet, it's more of a "it isn't yet, but this could get pretty bad". I wasn't around for GFC, but I don't think this time will be anywhere near comparable because the same level of leverage isn't in the system and this isn't coming off the back of a collapse in the financial system, it's a value reset. For Europe, if Russia stops flows of gas to Europe this winter, political discontent rises and a sovereign debt crisis reemerges, then it could turn into a real shitshow here. I don't think the US has any risks of this scale so should be able to pull through a lot quicker.
I heard someone say it's like we're in a recession where the fundamentals are still good. Weird times
A bit off topic, but idk who in the world would be purchasing office space rn. I know a large insurer in the Midwest just put up a ton of office space for sale bc they no longer need it due to WFH.
I can tell you don’t work in real estate. Old office product (built 2000 and earlier) is becoming almost worthless, like you said.
New product, built in the last few years, is leasing like crazy. People still need office space, and companies want cool / fun / new space to encourage employees to come back.
Think of office space like phones. People will pay $2k for an iphone or Samsung, but I wouldn’t use a 5 year old blackberry even if you gave it to me for free
It's not that RE is falling to shit and the industry is doomed to the dark ages forever. The current assets (depending on the type) that are managed well with credit worthy tenants and regular upkeep will thrive and cash flow accordingly. The issue is mainly growing portfolios with acquisitions and dispositions and the brokers that rely on fees to make their income. With raising interest rates and changing needs in certain asset classes, we are seeing cap rates fluctuate with the ability to pencil deals currently. The same NOI on a property now after debt service might only give an IRR of 10% but when rates were 150 bps less the IRR was north of 15-20% and everyone was chasing the deals and compressing cap rates.
Until inflation gets under control we will see central banks raising rates and making deals pencil out less and less so cap rates will expand and it will take a while for the market to realize where cap rates should be at in the new market environment. But, once we get to a point that inflation is under control and the central banks start to decrease rates to a more sustainable level, we will see lower debt terms and more deals making sense so cap rates compress accordingly. It's all cyclical and nothing to worry about.
The only reason to be concerned about the industry moving forward is if you are a broker and the slower deal flow affects their bottom line (and the squeaky wheel gets the grease) or people that have distressed assets from either poor asset management or just got a tough break in the changing market conditions like office tenants leaving because of WFH.
Agree, but will add that people who over levered with floating rate debt on deals that were 3 caps are going to have some pain unless they are very well capitalized.
edit - nevermind, missed your last sentence.
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