Panelists at a commercial real estate industry conference held last week in Boston include: (from left) Robert E. Griffin Jr. of Cushman & Wakefield, who served as moderator; Todd Henderson of the RREEF Funds; Michael O’Neill, president of Preferred Real Estate Investments; Peter Palandjian, chairman and chief executive officer of Intercontinental Real Estate Corp.; and David Steinwedell, Chief Investment Officer of Wells Real Estate Funds. The event took place at the Hub’s World Trade Center.
Lower returns and higher risk – is there any wonder why capital continues to flow into commercial real estate?
“The competition is fierce,” acceded Wells Real Estate Funds executive David Steinwedell during an industry conference last week at Boston’s World Trade Center.
Tuesday’s event, for which Banker & Tradesman was the media sponsor, featured a panel led by Cushman & Wakefield chief Robert E. Griffin Jr. in which Steinwedell and fellow players such as Preferred Real Estate Investments founder Michael O’Neill proclaimed continued ardor for buying commercial real estate. Hub-based operator Peter Palandjian and others said they are keeping a wary eye on interest rates and compressed yields, but most maintained the prospects remain brighter for real estate than alternative options. That even goes for struggling Massachusetts, which appeared on the panelist wish list despite acknowledgement that Boston has among the highest office vacancy rates of any major city at present and questionable employment growth.
“We’re starting to like home now,” said Palandjian, chairman of Intercontinental Real Estate Corp., while Todd Henderson of the RREEF Funds noted that the region has reclaimed its business fortunes in the wake of past downturns. “We think it will continue to perform,” said Henderson, citing the area’s academic and entrepreneurial backbone. Intercontinental has two closed-end, commingled funds pursuing deals, the newest a speculative, union-backed vehicle restricted to New England that offers a side benefit of creating construction jobs from its ventures. Already under way with a 200-unit apartment project in Quincy Center, Intercontinental’s Fund IV broke ground earlier this month on a twin-tower residential complex in downtown Providence, R.I.
Core deals remain among the most sought-after investment, but pricing and terms have become so overheated that even finicky Wells is adjusting its criteria. Once strictly targeting single-tenant properties with unimpeachable credit, Wells today will buy into buildings sporting multiple tenants, said Steinwedell, and is launching a fund for high-net-worth individuals looking to pursue even riskier value-added opportunities. “That’s been a response to the marketplace,” he said, pointing to a new $4 billion Goldman Sachs equity fund getting 80 percent of its backing from high net worth individuals and just 20 percent from institutions such as pension funds. To meet the demands of capital, Wells is “dusting off a few old ideas,” said Steinwedell, among them joint ventures or build-to-suit arrangements.
‘An Initial Salvo’
The RREEF Funds is also casting capital into choppier waters, said Henderson, including a partnership with a California pension fund to invest in new development projects. Traditionally a core investor, upward of 60 percent of the estimated $3 billion that RREEF hopes to put out this year will wind up in value-added transactions, he noted. Seeking greater returns than the single-digit results now standard for core assets, capital sources are readily accepting the riskier approach, most panelists said, so much so that new investors are willing to accept a 12-month delay in getting their money placed by RREEF, said Henderson.
“We’re having a tough time slugging it out,” said the firm’s managing director, adding that the situation is likely to become even more difficult. A Korean fund is pouring $20 billion into U.S. real estate as “an initial salvo,” said Henderson, with the weak dollar expected to further enhance overseas interest. “Our conclusion is that [the heightened competition] doesn’t change, and if it does, it doesn’t change dramatically,” he said. Henderson maintained that any interest rate hike would not bolster low capitalization rates as some have predicted. Yields will also stay in the single-digit range for core acquisitions, predicted Henderson, who said he believes RREEF would actually benefit if interest rates did increase.
“Nothing would make me happier than to see interest rates go up, because I think the competition in the marketplace would go down,” he said, with leveraged buyers most vulnerable to such an outcome. Wells could accept a steady increase in interest rates, according to Steinwedell, but he said a sharp jump would be disruptive. O’Neill said he believes there would be “a huge impact” on capitalization rates should interest rates grow, and said one of the more encouraging trends he has seen of late is a move away from floating rates. “That’s a recipe for disaster,” he said, further advising audience members to lock in interest rates for the long term.
A Pennsylvania-based developer who followed brothers Brian and Vince into Massachusetts real estate through Preferred’s recent acquisition of a North Attleboro business park, Michael O’Neill told the audience that his strategy has long been concentrated on value-added real estate. Among the firm’s more speculative deals, he noted, was the $1 purchase of a former electric plant in Chester, Pa., a dying community just outside Philadelphia that had lost 90 percent of its residents since World War II. The developers worked with local residents to create a $500 million plan featuring 800 units of housing, helping revitalize a market few investors would previously consider.
“We saw something there that no one else saw,” said O’Neill. Griffin described the pioneering approach as buying “three exits up and two miles in from Main and Main,” a fitting description to Preferred’s acquisition last year of a Texas Instruments plan in North Attleboro. The company is instituting an ambitious redevelopment plan of the 265-acre site, which straddles the Boston and Providence, R.I., corridor on Interstate 95. Brokers such as veteran Robert Cronin are helping lease excess space in the complex, while the sale to Preferred was bolstered by a leaseback arrangement with Texas Instruments in a new building.
Besides pursuing properties in questionable locations, Preferred will take additional risk, said O’Neill, such as buying in cash and sans approvals. A community-oriented approach can help overcome local opposition, O’Neill argued, a philosophy used in another recent revival of a former toilet paper factory in New Jersey. Preferred reached a compromise with residents uncomfortable with residential uses by pledging to create tax-generating commercial uses as well, including office space that already is 80 percent leased.
O’Neill bemoaned capital’s movement towards value-added projects as bringing unneeded competition, forcing his company to “dig deeper” for new endeavors. The lack of real estate opportunities was a common theme at last week’s panel, with Steinwedell adding that his firm’s approach of pursuing off-market deals has been affected, while Palandjian said his company has tried to preempt the bidding process on certain assets and recently placed a hard deposit on a property without conducting due diligence. Such tactics are required to survive in the current environment, most agreed, with Griffin describing the situation as “a war.”
Intercontinental has hired new acquisitions specialists and is considering additional ways to get the money out similar to past investments in entertainment ventures such as Water Country, a water park in Portsmouth, N.H. “We’re trying to get creative about deal flow,” Palandjian said.
Joe Clements may be reached at jclements@thewarrengroup.com.
