Category: (3)

By James Nelson

NEW YORK CITY—For the December 2016 of the Full Nelson, I had the pleasure of sitting down with Victor Calanog, Chief Economist & Senior Vice President at Reis, to discuss the impact of the Presidential election on the New York City real estate market.

JAMES:  What do you have to say about the Presidential election results?

VICTOR: The downside seems to be out of the way.  When it looked like Trump was going to win the election, the DOW was down 800 to 900 points, and low and behold the market was up the next seven to eight trading days.  The markets appear to be taking a bet on greater economic activity resulting from things like infrastructure investments that tend to stimulate more economic activity, which is why the stock of companies like construction services rose anywhere from seven to 20 percent right when Trump was elected.  Then the questions is whether or not inflation will come at its heels, which is why the 10- year Treasuries have been rising quite a bit as well.

JAMES:  What impact does the election have on the real estate market? 

VICTOR: I was saying that Brexit would be a nonevent for commercial property fundamentals, as well as pricing in the US.  The US is perceived to be a safe haven on a risk adjusted basis, and superstar cities with real estate like New York and San Francisco are reaping a lot of those benefits given that they are real assets that are generating income.  That is the overall context as to why a lot of the geopolitical upheavals that are having an effect on other countries are largely leaving us unaffected.  The question has been raised, will a President that has a background in commercial real estate be good for commercial real estate?  I think it seems to be leading that way in terms of where investors are placing bets.  If there are deals to be had out there, people are waiting for more preferential tax treatments, if tax policies change.  We don’t believe we will see the end of 1031 exchanges, so that will benefit a lot real estate investments.  This is not going to lift all boats, but places like New York and San Francisco will likely benefit disproportionately.

JAMES:  Do you think that foreign interest in New York will continue?

VICTOR:  In relative terms, I suspect that if there are benefits to be had, if the economy keeps growing, if treasury rates don’t spike where the risk free rate is more attractive than riskier options, I suspect that any kind of foreign policy change and or boiling of the waters when it comes to how the US relates to the EU and other trading partners, a lot of that will probably be to New York’s benefit as opposed to its disadvantage.  For example, if there is any kind of effect on Brexit on the property markets it is that it probably rendered London as a safe haven for foreign investment as less of an option.  Where else will that kind money go?  New York.

JAMES:  We are witnessing a slowdown in sales in New York City.  And we would think that this decline was a result of a lot of uncertainty.  Now that we are post-election, how do you see sales activity for 2017?

VICTOR: Before the November elections we were not sure whether a Clinton or Trump administration would benefit or harm investments, real estate, or the climate in general. Now that we know Trump will be in office, what people are waiting for will be what changes to rules, regulations, need to be considered before making a commitment.  I think many are waiting on the sidelines until they are familiar with said rules.  Come January, all of these administrative changes will be rolled out in a more definitive way.  I suspect you will see a burst of economic activity at the start of next year, and let’s see how 2017 pans out.

JAMES:  If the 10-year treasury is up, what impact will that have on pricing?

VICTOR: If the 10-year Treasury rate rises past a certain level then you will see greater upward pressure on cap rates, and therefore possibly lower valuations.  But, spreads are still relatively healthy.  A 4 or 5 percent cap rate sounds low until you consider the fact that we were coming from a 1.8 to 1.9 percent 10- year Treasury.  Therefore, a 77-80 bps rise in 10-year Treasuries does not worry me as much.  On the other hand, if 10-year Treasuries climb to the 4 or 5 percent levels then you are looking at an investment comparison where you have got a 4-5 percent sure thing versus riskier alternatives like equities or commercial real estate.  I am not worried right now, but November 9th really pushed 10-year Treasuries in a way that the Federal Reserve could not do for two years.  It ended QE 3, it raised borrowing rates overnight in December 2014, it threatened to raise it again in December 2015, and still no real blip in interested rates until November 9th.  So here we are.

JAMES:  The overall development market is down substantially, and we believe it is a result of not having construction financing available. Do you think that Trump’s election might ease some of the restrictions and regulations on the larger banks? 

VICTOR: It does look like the Trump administration is leaning towards less of a regulatory burden not just for real estate companies, but for banks in general.  It is yet to be seen what kind of impact January will have on changes to regulatory burdens like HVCRE and a lot of the topics that construction financing folks are worried about.  The buzz word is will the Trump administration provide us with a definitive roadmap on which we can hang our hats; whether it means we are writing checks to finance new development or banking on not just short term interest rate movements, but shovels in the ground two years from now on a one million square foot office building that won’t see the light of day until 2019.  If we have that definitive road map, we will feel a little bit more confident about writing that check, and if not then we will probably hold back.

By Reuben Gregg Brewer

In a recent news updateVEREIT (NYSE:VER) was flagged as having been downgraded by a Bank of America Merrill Lynch analyst along with Realty Income (NYSE:O), National Retail Properties (NYSE:NNN), and Spirit Realty (NYSE:SRC). The logic being that there’s limited upside because of the long-term lease nature of the triple net lease business. I won’t argue that, but there’s something important to note about VEREIT compared to this trio–diversification.

The retail group

As a shareholder of VEREIT, what caught my eye about this particular news release was that it lumped the real estate investment trust, or REIT, in with the retail sector. Retail accounts for essentially all of National Retail’s portfolio, nearly 90% of Spirit Realty’s portfolio, and roughly 80% of Realty Income’s portfolio. Spirit and Realty Income both have some exposure to office and industrial, but retail is the clear driving force at each of these REITs.

VEREIT’s portfolio, on the other hand, is far more diversified. Retail makes up around 60% of the portfolio, split largely between retail stores (35%) and restaurants (24%), with office at 23% and industrial at 16%. A near term goal is to reduce the exposure to restaurants, but even without that it’s pretty clear that retail is important to VEREIT, but it has materially more sector diversification than the other three REITs with which it was lumped.

The diversification doesn’t stop there. That’s because the numbers above are for the company’s owned portfolio. VEREIT also has an asset management business that sells and manages non-traded REITs. It’s Cole division has been struggling of late, but largely because of its association with the VEREIT… or more specifically American Realty Capital Properties, what VEREIT was known as before a name change and strategic repositioning. The problem is that the repositioning came along with an accounting scandal that resulted in Cole losing key brokerage relationships even though Cole wasn’t implicated in the troubles in any way.

Although Cole isn’t much of a contributor to the bottom line today, at one point it was a more notable business. And if VEREIT can continue the improving trends at Cole, it has the potential to regain at least some of its former glory. Either way, the Cole business is yet another diversification away from retail since Cole, and thus VEREIT, earns money for managing the portfolios of Cole’s products–regardless of what’s inside.

A different beast

Clearly, VEREIT is not simply a retail triple net lease REIT. It’s much more than that and this is an important distinction that investors should be aware of. Moreover, looked at as a whole, there’s really only one REIT to which you can compare VEREIT… and that’s WP Carey (NYSE:WPC).

That said, Carey is slightly different from VEREIT because it invests internationally and VEREIT is focused on North America. So they are the closest comparisons, but if you really want diversification in the triple net lease space Carey, with roughly 37% of its portfolio outside the United States, is probably your best option. It’s also less exposed to retail. Carey’s portfolio breakdown is industrial 28%, office 25%, warehouse 18%, retail 16%, and self storage 5% (“other” rounds that to 100%). Carey’s asset management arm, meanwhile, makes up about 8% of its adjusted funds from operations. Carey is truly a different animal in the triple net lease space.

I’m not suggesting that VEREIT or Carey are better or worse than Realty Income, National Retail, or Spirit. Nor am I suggesting that any of them are more or less prepared for a rising interest rate environment. What I am trying to stress is that neither VEREIT nor Carey are your run of the mill retail focused triple net lease REIT. They are broadly diversified by property type and both have an asset management arm. That materially changes how you have to look at them, with the international exposure at Carey adding even more differentiation to the mix.

Essentially, this goes back to a key investment priority: Make sure you understand what you own.

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medical

By Randy Blankstein, President of Net Lease Advisory firm The Boulder Group.

Through the first three quarters of 2016, transactions in the single tenant medical sector* were up approximately 8% when compared to the first three quarters of 2015. In the same time period, the number of transactions in the overall net lease market was down 2.6%.

Cap rates in the single tenant net lease medical sector remained unchanged in the third quarter of 2016 with a median asking cap rate of 6.50%. More specifically, the dialysis sector, which includes tenants Fresenius and DaVita, experienced compression of 22 basis points.

The growing net lease medical sector continues to attract investor interest due to the increasing aging population of the country and the sector’s resistance to e-commerce. In addition to the positive outlook of the healthcare sector, most medical related leases feature rental escalations. These attributes are highly sought after characteristics amongst net lease investors.

While the overall net lease market experienced cap rate compression of 36 basis points from the third quarter of 2015 to the third quarter of 2016, cap rates for the net lease medical sector remained unchanged. This can be attributed to the influx of non-investment grade medical properties like urgent care and general doctor properties.

In the third quarter of 2016, there was a 26% increase in the supply of non-investment grade medical properties which typically trade at a discount to investment grade properties. Furthermore, non-investment grade medical properties made up 65% of the net lease medical sector.

Dialysis clinics continue to be at the forefront of investor demand due to their strong corporate guarantees and familiarity with investors. In the third quarter, dialysis clinics made up 57% of the overall net lease medical sector and represented lower cap rates than urgent care and general doctor properties.

The lower price points associated with net lease dialysis properties have garnered interest from 1031 buyers who traditionally purchase net lease retail assets. The median price for net lease dialysis properties in the third quarter of 2016 was approximately $2.4 million while the overall price point of the net lease medical sector is approximately $3.4 million.

The single tenant net lease medical sector will remain active as investors remain attracted to the long term outlook for healthcare as the aging demographic grows. Investors across all profile types will continue to acquire net lease medical properties as cap rates remain attractive when compared to the overall net lease sector.

*For the purpose of this report, the single tenant net lease medical sector is defined as net lease medical assets priced below $10 million.

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