Boston Experts See Room Left to Run in Market Recovery
As we approach the mid-year mark, professionals are fielding more questions from clients who experienced a slower-than-expected first quarter, and are wondering what the second half of ’17 will bring. At May's CREW Boston luncheon in downtown Boston titled, 2017 Capital Markets Outlook: Are We in the 8th Inning? The panelists were:
- Pam Herbst, Head of Direct Investment Group, AEW
- Katy Gnapp, Head of Commercial Real Estate Banking, Bank of America Merrill Lynch
- Lauren O’Neill, Director, HFF
- Judy Ravech, Senior Managing Director, Newmark Grubb Knight Frank
All four speakers were cautiously optimistic, and expecting a busier second half of the year. Here’s what they had to say:
ON 1Q CRE SALES:
“Sales volume in the first quarter was at its lowest level since 2013 so the year got off to a slow start. The slowdown was due to three key factors:
- Tremendous activity over the past three years means there is just not as much to sell.
- Political uncertainty and concerns that we are at the end of the cycle.
- A bid/ask gap that’s developed because of the first two factors. Buyers are not willing to pay as much and sellers aren’t willing to discount because the market is still healthy.” ~ Judy Ravech
“The bid-ask gap is wide. We are also seeing a lot of refi competition with CMBS and insurance firms.” ~ Katy Gnapp
“Things are starting to pick up after a slow start to the year, similar to what we saw in 2016. The market is also very competitive. We’re seeing 10 to 15 entities competing for core deals in the big metros.” ~ Pam Herbst
ON RETAIL:
Record-high closures of traditional big-name retails are spurring a sea change as new “experiential retailers” move in to fill the gap (see slide).
“Retail is not overdeveloped. It’s under demolished,” quoting a recent article about the status of retail. ~ Gnapp
“Malls are being repurposed into mixed use, medical centers, senior housing or a ‘power village’ if the area has the right demographics.” ~O’Neill
ON CAPITAL:
“Regional and local banks are now the primary source of borrowed capital for commercial real estate, accounting for 20 percent of the total versus only 9 percent in 2012.” ~Ravech
“We currently have about 18-20% in construction lending, mostly multifamily and are looking to keep it to about the same percentage. We are being careful about construction lending right now. We want to do the loans that make sense.” ~Gnapp
“I think there’s capital available for every deal out there. It just depends on what it looks like.” ~O’Neill
ON INDUSTRIAL:
Trends are pushing prices to historical highs, especially in gateway markets. There is a lot more room for growth as everyone wants more e-commerce space.
ON BOSTON:
Boston moved up from 14th place to 6th place in terms of commercial real estate sales volume. That stat is consistent with EDR’s ScoreKeeper model that ranks Boston as the 6th strongest market for Phase I ESA activity, up from 10th one year ago.
ON RISK:
More than once, I heard panelists use the term “risk-off” to describe the current attitude of investors and lenders. No one is taking on more risk than they are comfortable with, especially as prices start to level out. The key is finding the right deals to avoid losses and ensure investors get a reasonable return down the road.
“Things are pretty good right now, but we’re only doing 5-year deals.”
“We are moving into a phase of ‘risk-off’ when rent matters, income flow matters. We are looking for very predictable income on properties.” ~Herbst
“We are cycle-aware, but we are also still lending. A lot of our clients make money in a recession and we expect to continue to serve them.” ~Gnapp
ARE WE IN THE 8th INNING?
The panelists were not overly concerned that the next recession is around the corner. In response to the question posed by the track title, Are We in the 8th Inning?, here’s what they had to say:
“We’re cautious, but we’re not seeing anything of concern right now. And after what we went through in 2008-10…what’s to worry about?” ~Herbst
“If there’s a correction, it will be shallow. Oversupply is not widespread. Banks are well-capitalized so they should be able to weather it.” ~Gnapp
“The discipline in the market will help. There’s headline risk, but that aside, we are not headed to Armageddon.” ~O’Neill
“We are looking at about 24 more months left to run in this recovery, and a busier summer and fall than we saw in the first quarter with more interest in development and value-add projects especially in urban and suburban locations.” ~Ravech
**
Although it is not wise to ignore the uncertainty of what the new policies of the Presidential administration could mean to commercial real estate, you can take solace in the fact that market fundamentals like vacancy rates, economic growth, job creation and access to capital are still favorable. If a market downturn is 18-24 months out, that could bode well for transactions this year as sellers look to unload properties while they can get a good deal. You can also expect to see the property-price relationship factor into more deals, more questions raised about potential issues that could impact property value, greater selectivity and certainly, more caution. Welcome to the ‘risk-off’ era of commercial real estate.
Thank you to Dianne Crocker with EDR for our luncheon recap.
