In this AFIRE Summit piece, we explain how the shock from the global pandemic has roiled real estate markets around the world—making the quality and location of properties as important as ever.
As the world inches closer to its first year of dealing with the COVID-19 pandemic, it’s natural for the real estate industry to focus on the risks—whether to the global economy or to specific sectors like office or retail. But it’s also worth considering some of the opportunities that are coming into view as a result of the seismic shifts in real estate markets this year.
A Long Year…
It seems like years rather than months ago, but if we look back to early 2020, conditions in real estate markets, particularly for value-add deals, were healthy, and arguably even approaching frothy territory in some spots, as investor demand outweighed the supply of transactions, and core investors dipped into value-add territory seeking incremental returns.
That all changed in March as market participants grasped the extent and severity of the pandemic. Following that initial shock and the subsequent standstill in transaction volumes, activity has now returned with more transactions pricing by the day, but notably, the composition of investor demand looks much different now than it did before COVID.
Gone from value-add transactions are core and core+ investors, and competition for many of these assets has notably decreased—partially a result of less-available financing. Yields on such deals have also started to rise as investors have become more cautious on the execution of new developments or asset repositionings with the pandemic still looming in the background.
Conversely, prime—or core—assets have benefited from a flight to quality. Spurred in part by lower interest rates, yields on recent tier-1 transactions have been even tighter than pre-COVID levels in some sectors.
For value-add investors, such a bifurcation should be a welcome development. When too much capital was awash in the system and too many investors exhibited “risk-on” behavior, creating value through new developments or asset repositionings became more difficult. But with lower asset prices at the outset, there is now a more obvious gap to fill via such property improvements, especially when Class C assets in good locations can be repositioned to become core properties.
The question for investors to consider is where and how they can deploy capital, not only to benefit from potentially more attractive pricing dynamics, but also to capitalize on the long-term structural trends that will drive tenant behavior and thus demand for real estate assets in years ahead.