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Category ArchiveCapStack Partners

In 2018, More Money, One Problem: More Money

It seems that for the past few Januarys, the capital markets had a doomsday prediction for the year ahead. Not long ago, risk retention signaled the death of the conduit loan market. More recently, the wall of maturity was set to topple the commercial real estate industry. In the end, the market’s appetite for CMBS bonds and real estate investments—along with the capital to back it—overcame the apocalyptic forecasts. I could say, “I told you so,” but you’re reading this because you care less about the past and more about what’s in store for 2018. Here’s what you need to know.

First and foremost, there are no market specific doomsday predictions on the horizon. The fact is the debt and equity markets are as robust as ever. As it relates to debt, CMBS issuances have climbed last year from $68 billion in 2016 to $77 billion. Turns out, bond buyers like risk retention and when an originator puts their money where their mouth is. Further, more debt funds have raised capital for loan originations and broadened their menu of lending programs. Most notably, regulated banks are set to see the legislative reigns loosen on their CRE loan originations, specifically, those associated with HVCRE, or High Volatility Commercial Real Estate, loans.

HVCRE loans require regulated banks to keep 150 percent risk weight—an increase from the previous 100 percent requirement. In dollar terms, for a $100 million loan, a bank needs to keep $12 million in capital reserves for a HVCRE loan versus $8 million for a 100 percent risk-weight loan. To be exempt from HVCRE designation, the current regulation mandates that borrowers of acquisition and development loans must contribute at least 15 percent cash into a project’s total cost. So, if a developer acquires a site say 10, 20, or 30 years ago and it appreciates in value to a point that the land contribution would more than suffice as all or some of a developer’s equity contribution into a project, it still doesn’t satisfy the HVCRE regulation for the developer’s 15 percent cash contribution relative to total project cost.

But back to the debt market impact. While I’m not predicting that the correction, amendment or repeal of this rule will significantly increase construction loan origination volume in the short run—banks have long memories and the last recession acutely resonates—it does make banks’ decisions to originate such loans a function of credit again, more so than the regulation associated with last decade’s financial crisis. It also means that there is inherently more debt capital available.

As it relates to equity capital, billions in real estate funds have been raised for all types of assets, regions, hold terms and investment strategies that have still yet to be deployed. Additionally, the alternative investment vehicles that specifically target individual investors directly and through the registered investment adviser and broker-dealer channels continue to grow and proliferate.

Now that we understand capital up and down the stack abounds, we need to also consider that economic indicators such as job and wage growth continue to signal near-term growth and stability, even as the Fed has, and will, continue raising rates into 2018. Think of that as the government taking the training wheels off because we’re cycling of our own volition and not showing signs of wobbliness. Add to this the gift of tax reform that the CRE industry received in 2017. Surprisingly, no one strongly predicted that a real estate-oriented president like Donald Trump would preserve and likely enhance the tax benefits of owning investment real estate. With that uncertainty gone, we can expect to see more capital pouring into the asset class from institutions, and individuals seeking to increase their portfolio allocations to public REITs, alternative investment vehicles and direct investment in real estate.

The comforting aspect of all this capital flow is the general caution and consideration debt and equity investors have been applying without overreaching to secure deals. I hear the common complaint about finding a deal that makes sense, and there is indeed a large and growing disparity between deals being reviewed and deals actually getting done than in the past. The groan is primarily one of intense and growing competition because of the higher volume of available capital and lower volume of available deals. However, when a deal does make sense for a lender or investor, they pounce quickly and with purpose. That is a sign of a healthy and responsible market, not a reckless or overheated one. So for 2018, all signals point to a steady market with no sensational dire predictions to kick off this year, or at least not any with the force to turn the capital spigot off in the near term. This leaves the only remaining problem, where and how all this capital gets allocated.

David Blatt is the chief executive officer of CapStack Partners. Connect with him on LinkedIn or on Twitter @capstackceo.


Source: commercial

The Rise of the Individual Investor Class

Historically, individuals—more colloquially referred to as “friends and family” or the “country club” investor—have always been the on-ramp investor profile for many property developers-operators. These investors were generally relegated to the smaller investments presented to them by people they knew in the real estate business, or real estate investment trusts available in the public markets. All the while, larger deals and fund vehicles remained the purview of the larger institutions. As the real estate investment class has grown in prominence over the last few years, so too has the prominence and power of the individual investor.

From Crowd to Class

Over the last few years, the advent of crowdfunding allowed individuals to access smaller debt and equity investments that didn’t necessarily involve a sponsor with whom that investor had a pre-existing relationship. Conversely, it allowed sponsors to raise the necessary capital from unaccredited investors and in very small increments. This was an early indication that a critical mass of individuals could take down a big-ticket asset such as real estate. Notably, many of the first movers in the crowdfunding space, such as Realty Mogul, Fundrise and Patch of Land, have parlayed their database of investors into raising homegrown fund vehicles that they manage today.

From Families to Offices

Over the same period, wealthy individuals and families have begun to organize into single and multifamily offices. Rather than make investments in a haphazard and reactive manner, they now leverage and allocate their wealth into real estate investments much more strategically, programmatically and proactively. They have brought on institutional-caliber staff and investment advisers to do so. As an investment manager, we have witnessed this evolution up close, as this profile has charged us with investment mandates defined by strategy rather than by deal (“Find me multifamily value-add investments” vs. “What do you think of this multifamily deal I was just sent?”). They can compete with institutional private equity funds to make such real estate investments. Sponsors have begun to take note.

From Institutions to Individuals

Blackstone recently announced that 15 to 20 percent of its assets under management have been raised from individual investors. This comes from a directed push that it began roughly five years ago, where the firm has been creating products and vehicles that could be sold through the broker dealer and registered investment adviser channels. They have cultivated an army of sales and marketing people to do so. Other large institutions like BlackRock, Starwood Capital Group and Brookfield have been similarly creating products and staffing up to do the same—either organically or via acquisition of advisers that manage individual investor capital.

But it is not only the larger marquee name institutions that are doing so. As an investment bank and adviser, we are regularly presented with asset- and strategy-specific real estate fund or REIT offerings that are geared towards individual investors. We are also doing more fund formation and private placement work with emerging real estate developer-operators seeking to organize their platform beyond the “one-off” syndication model by which they built their business. While the larger institutions require scale, the diversity of the individual investors makes room for small and midsize vehicles with niche strategies that don’t necessarily need to fit into the standardized five-year hold typically presented.

As capital has flooded the real estate market, it has become increasingly difficult for real estate funds to invest into real estate deals using the traditional three- to seven-year closed-end fund structure. Many sponsors also recall how quickly the larger institutions turned off the capital spigot in the last market downturn. While at the same time, individual investors and their financial advisers are seeking to recalibrate a portion of their investment portfolios away from public equities and bonds into alternatives, particularly real estate.

The individual investor class tends to be “stickier” with a long-term and, in certain instances, evergreen investment horizon. This provides for a level of patience and stability into a fixed asset like real estate. It is reminiscent of Warren Buffet’s comment, “Only buy something that you’d be perfectly happy to hold if the market shuts down for 10 years.”

David Blatt is the chief executive officer of CapStack Partners. Connect with him on LinkedIn or on Twitter @capstackceo.


Source: commercial