COVER STORY, DECEMBER 2011

INSTITUTIONAL INVESTORS’ STRATEGIES
Secondary markets in the Southeast draw attention.
Savannah Duncan

A rendering of the 88,000-square-foot Joint School of Nanoscience & Nanoengineering, which will open in January at Gateway University’s Research Park in Greensboro.

Pension funds will enter the new year with an bigger war chest of capital to deploy than usual. Mike McMenomy, global head of investor services at CBRE Global Investors, says plan sponsors entered 2011 with approximately $85 billion of capital committed to real estate, a sizeable portion of which has not yet been placed.

Therefore, he says institutions will enter 2012 with some fresh needs to secure relationships with the investment management community and deploy that capital. For its part, CBRE Global Investors currently has approximately $2.6 billion in equity available to invest in 2012.

“Overall, there’s going to be more capital allocated to commercial real estate, although it will not be a flood,” says Kevin Smith, senior managing director at Prudential Real Estate Investors. “Pension funds are attracted to real estate [because of] relatively good investment return prospects for performance relative to other asset classes.”

In the third quarter of this year, Prudential purchased the Ezon Publix Portfolio, encompassing four Publix-anchored shopping centers in Florida, for $38 million. The properties included Summerlin Crossing in Fort Myers, King’s Ridge in Orlando, and Shops at North Cape and Santa Barbara Shops in Cape Coral.

While the large, gateway cities are the most in demand, institutional investors are starting to see opportunities in some cities and property types across the Southeast. Smith says there is definitely opportunity in the Southeast because of the state of the region.

“When we think of the Southeast, we think of rapidly growing cities where you can make money if you invest at the right time,” Smith says. “There tends to be a lot of new supply because those markets are prone to spates of oversupply, which generally makes them more attractive from a short-term perspective.”

Without a doubt, the Southeastern city on everyone’s “must” list is Washington, D.C. Investors are most interested in gateway cities at the moment, including San Francisco, Seattle, New York and Boston, however, for the right property type in the right city, they are willing to look elsewhere.

“Markets like New York and Washington, D.C., have recovered more quickly from the recession,” says Matt Bronfman, managing director of Jamestown. “Cities like Atlanta are overbuilt and recovery is much slower [there].”

Bronfman adds that although Atlanta and Miami are primary markets on a long-term basis, currently some investors consider them as secondary markets on a short-term basis. The cities in the Southeast that investors have their eye on the most are actually what many industrial experts would consider secondary markets.

Charlotte, Raleigh/Durham, Charleston and Nashville are of interest to many investors because of the economic conditions and job growth in those areas. “The supply and demand conditions are good right now [in those cities] and the markets are healthy,” says Jon Kleinberg, managing director of investment sales at Transwestern’s Atlanta office.

Additionally, Florida has a few cities and properties that investors see as good buys. Bucchere mentions investors are looking at Orlando and Tampa. For the past two quarters, the Fort Lauderdale commercial real estate market has performed well, adds Jeff Havsy, director of research at the National Council of Real Estate Investment Fiduciaries (NCREIF). In the third quarter of 2011, apartments in Fort Lauderdale were among the best performers in the country.

“There are some good buys out there [in secondary markets], but the focus is on the absolute best assets,” says Vic Bucchere, head of U.S. managed accounts acquisitions at CBRE Global Investors. “We have to appropriately price the risk.”

Unsurprisingly, the kind of commercial real estate investors are most interested in is multifamily given its continued strength throughout the recession.

“In an era where employment looked suspect, people sought for-rent opportunities,” McMenomy says. “The single-family dwelling for-ownership market is still difficult to qualify for and generate a down payment. [Additionally,] there’s an echo boom generation of 24- to 32-year-olds, which is a high apartment rent demographic profile.”

Inside The Numbers

Havsy says on a relative basis the Southeast has a higher percentage of apartments than other property types in the NCREIF Index. The strong performance of the multifamily sector has really given a boost to the region’s commercial real estate market overall in terms of total returns. The NCRIEF Property Index Detailed Quarterly Performance Report for the third quarter tracked 1,105 properties in the Southeast and 278 of those properties were multifamily.

The report shows that the total returns in the South were the second best in the nation in the third quarter, rising 3.2 percent over the previous quarter. More specifically in the Southeast, total returns in the third quarter were up 3.07 percent.

For the office, industrial and retail sectors, the overall performance really varies by city and the specific property. For example, Bucchere says the Nashville office market has been surprisingly resilient. 

The Atlanta office market is struggling due to a lack of growth in employment and a large amount of oversupply. However, Kleinberg says once job growth picks up in Atlanta, the institutions will be back looking to acquire assets in the capital of the South. Despite the struggling office market, Havsy says the Atlanta apartment market is performing fairly well.

“There is a flight to quality that is moving capital to core assets and proven locations,” says Smith. “Our clients are generally focusing on income stability, which typically is best found in core assets or can be generated [via] modest value-adding activities. There is an appetite for developing properties such as apartments in core markets. Some clients also are willing to consider buying an empty building where they believe capital for leasing activities can be profitably introduced.”

Expectations Of Returns

Core buyers are focused on yield, which is a capitalization rate just over 7 percent for prime Southeast markets with an IRR that is not much higher than that to reflect the lack of growth, says Bucchere. In terms of value-add properties, those investors are looking for opportunities that have leveraged returns of at least 14 percent and opportunistic properties are trading on a price-per-pound basis, mostly with private capital.

“There are a lot of institutions out there that with a substantial appetite for real estate, but they are all looking for the same thing, core properties in the top markets,” says Kleinberg. “The amount of supply is limited, but the demand is not for key assets.”

As investors begin to consider options for the coming year, they have some concerns regarding real estate, including the dollars still sitting on the sidelines, job growth and the economy. Smith adds that clients are concerned that the backlog of committed dollars from the 2008-2010 vintage funds need to either be invested or released for recommitment to newer vintage funds.

Overall, institutional investors believe that real estate will continue to be a popular investment choice in 2012. Havsy says the multifamily market will continue to be the most desired asset type and he foresees some activity in the hospitality sector as well. Additionally, continued population growth in the Southeast should help it to become a stronger contender for investment dollars.

“We look for real estate to continue to be popular in 2012 as it has been in 2011,” McMenomy says.

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