8 Reasons Why Commercial Real Estate Sti...

Editor’s Note: Dennis Fassett is a former corporate finance executive turned real estate investing “Cash Flow Mercenary.” Dennis specializes in single-family and multi-family cash flow properties and thoroughly enjoys assisting his fellow investors with their own strategies, including how to buy your first apartment building.

As an ongoing contributor to Mogul’s “Market News Updates,” Mr. Fassett provides us with his own unique, lively, and thought-provoking commentary on the timely industry news and events of today that are impacting our industry. And be sure to check out his other super-helpful Market News Updates. For now, enjoy...

From Dennis Fassett, Cash Flow Mercenary...

I bought my first apartment building in 2008, and the second in 2010. I like commercial a lot – multifamily in particular, because they’re assets that can be managed by professionals for hire and still help build wealth.

I’ve been on the sidelines though for the past few years because the market has been really strange. Prices dipped early on in the recession, then went back up and never came back to earth. Then when the Fed started pumping and drove interest rates into the dirt - it got crazy.

People started buying everything in sight because the money was so cheap, and in my view, nobody took into consideration the fact that just because a building pencils out as a good deal and cash flows doesn’t mean that it will still perform when rates rise and/or the economy falters.

Then came Trump and the rational or irrational exuberance that he has brought to the financial markets and economy in general.

In addition to recent new higher interest rates (bad for real estate), the forecasts I’ve read pretty much all predict more growth in the economy (good for REI) and a mild increase in inflation (good for property values and rental real estate).

So, overall, the prognosis looks good for real estate. So I’m looking at multifamily again.

I read a piece by a commercial asset manager recently who pretty neatly summarized what I’ve been reading about commercial REI and I though I’d share his findings with you.

8 Is Great

He pointed out 8 factors that explain why commercial real estate still rocks.

eight They are:

1. Economic indicators are strong. After a slow start to the year, U.S. gross domestic product picked up in the third quarter. According to the latest estimates, real GDP advanced 2.9% in the third quarter of 2016, a healthy improvement over 1.4% gain in the second quarter.

2. Job growth is fueling the fire. Continued job growth in recent years has led to low vacancy rates and rising rents, which has created demand within the commercial real estate market. This will drive demand for office space as well as create a need for more apartments and other multifamily complexes for employees, especially millennials, to live and work. Besides overall employment trending upward, construction jobs also remain strong.

3. Office rents continue to climb. Low vacancy and new office development in the pipeline have had a positive impact on leasing rates across the U.S. Office rents have risen by 1% over the quarter, reaching a cycle high. Growth has been led by secondary markets, such as Denver.

4. Sales look good too. During the first half of 2016, total U.S. commercial real estate sales reached $139.4 billion. Sales were led by the office sector, which has experienced inconsistent performance among sectors in recent years. Gateway cities like New York and Los Angeles had the highest sales volumes, but it was the secondary markets that saw the most growth. In fact, between 2014 and 2015, office sales volumes in Raleigh/Durham, N.C. and St. Louis, M.O. increased by over 400%.

5. Returns are still attractive. In today’s low-interest rate environment, investors looking for yield are moving toward commercial real estate for its potential to offer more stable, higher-yield returns over the long term. According to recent data, over the past 5 years, U.S. pension funds have been consistently increasing allocations to real estate, reports NERI.

6. Risk is being rewarded. Real estate isn’t the only asset class priced at historic highs. Since the election, the Dow Jones Industrial Average has set at least 6 new record closing highs. Clearly high prices don’t keep investors out of the stock market. The case for real estate is even stronger than for stocks. Institutional-quality real estate yields are still well above historical averages. Even with the recent rise in rates, spreads are 300 or more basis points above 10-year treasuries and in line with historical averages. In 2007’s peaking real estate market, the spread was only 1 percentage point. Buying commercial real estate today is much more rewarding compared with the low yields on other long-term investments.

7. Multifamily is a stable option. While the outlook for commercial real estate has been positive, there is still the possibility of a recession in the near term. This could pose a threat to sectors like office space, since companies may have to downsize, but multifamily properties will remain stable. People will always need a place to live, which makes multifamily a smart defensive play.

8. Opportunities still exist. Urban residences and the conveniences they offer have been rising in popularity, especially with millennial home dwellers. But instead of hurting the suburban market, this creates an opportunity for housing developments outside of the city that offer high-end amenities typically found in urban settings.

So, it is not too late to invest in commercial real estate. By taking a strategic and disciplined approach, investors can realize impressive returns in both growing and maturing markets.