Real Estate investments continue to rise in importance in the alternative asset space. But much is still to be learned about their value and performance. On Oct. 3-4, the Institute for Private Capital hosted the Commercial Real Estate Data Alliance (CREDA) 2019 Real Estate Research Symposium to delve into the latest research on the topic.
Held at the Rizzo Conference Center in Chapel Hill, North Carolina, the symposium featured innovative and leading research on such topics as affordable housing, single-family home rentals, and manufactured housing. Following are some of the highlights from the event.
Keynote: Crocker Liu, Cornell School of Hotel Adminstration
Liu’s presentation focused on the concept of “air rights” – the right to build in the empty space above an existing property. As available land increasingly becomes an issue, urban developers and investors are looking to the skies for real estate options.
Air rights can be sold or leased either with an existing structure or separate from it. As an example of the latter, Liu cited the case of the New York Central railroad, which sold the air rights above its tracks in midtown Manhattan for the construction of Grand Central Terminal. Fifty years later, the air rights over the terminal were sold to construct the Pan Am (now MetLife) office tower.
The rental and sale of air rights, said Liu, could be a boon for affordable housing efforts. Free air rights might be granted, for example, for permanent affordable housing. Municipalities could allow developers to build bigger buildings (i.e., ones that expand vertically) in exchange for a commitment to provide a certain amount of affordable housing.
Liu’s research showed that, in urban centers, air space has value. Apartments on higher floors command higher rents. In New York City, for example, Liu determined that the average value of an air rights option was 6.2% of the transaction value for a property in Manhattan, and 19.1% for a property in Queens.
Session: Tradeoffs in Managing CRE Assets
This session, led by Mariya Letdin of Florida State University, covered everything from financing corporate real estate to a discussion of unlisted REITs.
Eva Steiner from the Cornell SC Johnson College of Business presented her research that showed that, as the value of a firm’s real estate holdings increases, the firm increases its borrowing and debt. Steiner’s model demonstrated that a company’s choice between issuing secured debt versus unsecured debt depends on the marginal cost of either instrument, and on the systematic risk exposure of real estate compared to that of all the firm’s assets. Steiner’s data showed that, for the average firm, the real estate risk exposure was far greater than the risk exposure of overall assets of the firm.
Sarah Rutledge of StratoDem Analytics led a panel on corporate real estate financing. Rutledge presented data that showed that single-tenant office spaces provide higher income returns than multi-tenant properties. Rutledge suggested that firms consider investing in suburban office space, where single-tenant properties are more prevalent.
Tim Hall of JLL provided an overview of sale-leaseback trends. Hall said that “economic tailwinds remain supportive” of the practice, and that many companies are taking advantage of the opportunity to redeploy capital previously locked into real estate into other assets. Hall also noted that e-commerce has helped spawn increasing interest in industrial sale-leaseback arrangements.
Tim Riddiough of the University of Wisconsin discussed “private equity for the common man.” Studying fees, fund flows and investment performance of unlisted REITs, Riddiough found that, with these investments, which are frequently marketed to individuals close to or at retirement age, fees are extremely high and not performance-sensitive, and fund flows do not depend on past sponsor performance. Gross-of-fee investment performance on these investments lags REIT performance by 1.0% on average, and net-of-fee investment performance lags by an average 6.5%.
Session: Emerging Institutional Market: Single-Family Home Rentals
This session focused on the emergence of single-family home rentals as an institutionally viable investment. The global financial crisis and corresponding house price declines and foreclosures created an opportunity for institutional capital to enter this market.
Panel leader Ira Shaw with Landmark Partners noted that the single-family rental home market is larger than it would initially appear. Thirty to forty percent of the 47 million rental units in the U.S. are single-family homes. Current institutional ownership accounts for only 1-2% of those units.
Steven Xiao and Serena Xiao from the University of Texas at Dallas presented their research on the implications of this new institutional investment class. Xiao and Xiao used several mergers between the largest institutional investors to explore how increases in market power as a result of those mergers affected rents and local crime rates. They found that the mergers resulted in an increase of 0.6-1.6% in rents and a 5-7% drop in crime rates.
Jonathan Ellenzweig of Tricon Capital Group, George Auerbach of Pretium Partners, and Ira Shaw provided an equity investor perspective and Chris Jones of Deutsche Bank a debt provider perspective on commercial real estate assets. They noted that as recent as 2012, single-family home rental investments were mainly held by opportunistic institutional investors, without a well-developed case for such investments or a clear long-term strategy. Eventually, institutional investors figured out how to operationalize tasks such as maintenance, changing the investment landscape from one of house-flipping for profit to a sustainable business model.
When asked about market prospects in the face of a potential economic recession, the panelists agreed that growing interest in single-family rental investments has increased some measures of risk, such as the average amount of leverage per deal. However, they remained optimistic that the market can ride out a recession because of several factors, such as the fact that renters of single-family homes tend to stay in place for a longer period of time than apartment renters (on average, three years versus one), recent demographic shifts that are making home ownership less desirable, and the ability of institutional investors to provide better customer service to renters.
Session: Manufactured Housing: The Good, the Bad and the Ugly
John Worth from NAREIT led this panel discussion on the manufactured (mobile) housing sector. Jeff Robertson of FCP and Charlie Becker of Duke Economics provided an industry and academic perspective, respectively.
Panelists noted that, overall, the sector has received less attention from institutional investors than other property types because of outdated misconceptions about manufactured housing. But data provided by Robertson and Becker showed that manufactured housing may present an opportunity for institutional investors because it mixes some of the attractive properties of both multifamily and single-family residential. For example, manufactured housing residents tend to maintain their property. They also pay fees for the maintenance of the common areas. Manufactured homes provide additional mobility, since the structures can be moved from community to community. Overall, incentives are aligned so that both residents and landlords work together to maintain their community which keeps quality, and therefore, rents, stable.
John Worth of Nareit gave a brief overview of the three main REITs that have benefitted from a first-mover advantage in manufactured housing investment (Sun Communities, Equity LifeStyle Properties, and UMH Properties). With a combined market capitalization of roughly $25 billion, these REITs have enjoyed a roughly 24% average annual return over the last 10 years.
Session: Barriers to Affordable Rental Housing
Stephen Malpezzi from the University of Wisconsin began the discussion by emphasizing the fact that housing has a low elasticity with respect to income, and showed that the ratio of rent expenditures to total income of low-income households has been growing since 1975.
Jacques Gordon from La Salle Investment Management described housing affordability from an institutional investor’s perspective. He acknowledged that, although they do not participate directly in low-income markets, institutional investors can contribute to the efforts of other stakeholders by increasing transparency in housing transactions, providing data, fostering innovation and influencing legislation at the state and federal levels.
Michael Lacour-Little of Fannie Mae discussed some of the drivers of unaffordability in the housing market, including restrictive land use and development regulations and a lack of government funding for affordable housing. Caitlin Sugrue Walter from the National Multifamily Housing Council agreed on the importance of these factors, to which she added increasing construction costs and the additional burdens imposed by recent legislation on rent control.
Leonard Wood of Crow Holdings said a significant hike in land prices represents a considerable obstacle for the development of moderately priced housing projects. He also surveyed the instruments available to policymakers that could make housing more affordable, including new zoning regulations, investments in infrastructure and less burdensome entitlement processes.
Session: “Three-Slide Session” of New Ideas and Work-in-Progress
In this session, Joseph Nichols of the Federal Reserve Board of Governors showed preliminary results from the research project “Slow-moving Capital and Fire Sales in Real Estate Markets,” which documents how out-of-market investors increase their market share during times of financial distress, and pay lower prices on average.
Jeremy Gabe of the University of San Diego introduced a new continuous measure of location characteristics. In the research project “Central Business Districts & Urban Form: Demonstrating a New Continuous Variable Approach in Multi-family Real Estate,” Gabe and his coauthors summarized the information contained in a large set of property characteristics into a small number of factors that correlate with the property’s location, and argue that these new variables allow them to account more precisely for the location component of a property’s price.
Edward Pierzak of San Diego State University documented how recently implemented tax benefits, which allow new owners to obtain tax deferrals on certain real estate investments, are associated with a significant increase in property prices. These preliminary results come from his research paper, “Into the O-Zone: Assessing Commercial Real Estate Transactions in Qualified Opportunity Zones.”
John Duca of Oberlin College presented the results of an equilibrium estimation of a real estate market model. His research project, “Interest Rate, Regulation, and Tax Effects on Commercial Real Estate: Lessons from the Past Half Century,” shows that increases in tax benefits are historically related to higher real estate prices, whereas higher interest rates and risk premiums are associated with lower prices for commercial properties.