Foreign capital is continuing to pour into U.S. real estate. Transactions led by cross-border buyers jumped 27 percent during the first half of the year compared to overall investment sales that rose just 2 percent during that period, according to research firm Real Capital Analytics (RCA). Yet large-scale portfolio and entity-level deals are giving foreign-led transaction volume an added boost, while the sale of individual assets is declining.
Cross-border investment is still at significantly higher levels as compared to the previous cycle. “In terms of cross-border activity, the U.S. remains the leading recipient of that capital,” says Maggie Coleman, managing director with JLL Capital Markets.
However, foreign acquisitions of U.S. real estate are clearly getting an extra lift from mega-deals that took place in the first half of 2018. Notably, Unibail-Rodamco completed its acquisition of Westfield for $7.7 billion, while Nesta Investing Holdings Ltd.’s buyout of Global Logistics Properties accounted for $4.5 billion in sales volume.
“The real story is that we have seen a pretty broad-based decline in cross-border volume,” says David Bitner, vice president and Americas head of capital markets research with real estate services firm Cushman & Wakefield. Excluding large entity deals, cross-border investment has declined by 24 percent in the last 12 months compared to the trailing three-year average, Cushman & Wakefield reports. Based on four quarter rolling sales, cross-border investment peaked in the third quarter of 2016 at $70 billion and has since declined to $41 billion as of first quarter, according to data from Cushman & Wakefield and RCA.
The growth in cross-border transactions is increasingly tied to portfolio and entity-level deals. Certainly, the two mega-deals mentioned above—along with a recent third announcement that Canadian-based Brookfield Asset Management plans to acquire Forest City Realty Trust—are a key part of what is keeping deal volume growing so far in 2018, notes Jim Costello, senior vice president at RCA.
Single asset deals slide
In some respects, the mega-deals are overshadowing the decline in single property acquisitions. China has pulled back significantly on its buying activity in the wake of tighter government policies in that country on foreign investing. But countries across the board have also reduced their U.S. buying activity in the past year. Cross-border investment has declined in 16 out of 20 top countries investing in U.S. commercial real estate, according to Cushman & Wakefield.
The two big exceptions that have increased their acquisition activity have been Singapore and Australia, while France and the Netherlands also posted growth, albeit at a far lower level. Canada continues to be an active buyer, even though its 12-month average is down 7 percent compared to its three-year average, according to Cushman & Wakefield.
There are a variety of reasons contributing to the diminished appetite for U.S. real estate. One is that the U.S. economy, at least in recent quarters, has not been outpacing the rest of the world as much as it had been a few years ago, notes Bitner. “We have seen growth prospects improve in Europe and Asia, both in China and in broader Asia, which would incentivize some capital to stay home,” he says.
The U.S. has seen rising dollar strength, which makes U.S. investing less attractive to some foreign entities. Rising U.S. interest rates also translate to higher hedging costs for many cross-border investors.
The question is whether this is a short-term blip, or if U.S. real estate is now less attractive to foreign investors relative to other global investment opportunities. Rising oil prices could push some of the Middle Eastern sovereign wealth funds to reengage, says Bitner. In addition, while there was a period of accelerating growth in Europe and Asia, the U.S. is starting to outpace it once more. So U.S. fundamentals are going to look more attractive, he adds.
Sovereigns expand strategies
There has also been a shift in what and where foreign investors are buying. JLL’s research team is tracking cross-border acquisitions in U.S. real estate in 2018—in both single assets and portfolio deals—that are on par with deal flow in 2017. However, there has been some notable shifts in the types of properties that foreign investors are actively buying. “I think there is increasing discernment and a measured approach by investors,” says Coleman.
In particular, cross-border buyers are exhibiting a stronger desire to buy industrial assets with buying activity that jumped 71 percent year-over-year from $2.4 billion in the first half of 2017 to $4.1 billion in the first half 2018. Meanwhile, office acquisitions from cross-border buyers totaled $5.2 billion, a decrease of 56 percent from the record first half of 2017 levels, but in line with the cycle’s average, according to JLL.
Excluding the Unibail-Westfield retail transaction, the office sector remains the largest recipient for cross-border capital in the U.S. by total volume. “Investors are still heavily focused on office, yet we are seeing nuances to that focus along with investor’s increasing appetite for yield,” says Coleman. A stronger dollar and rising U.S. interest rates reflect some of those nuances.
As a result, foreign investors that had been keenly focused on office in gateway markets are expanding their scope due to what could be near peak pricing for those trophy office assets. Office investors are now branching out to secondary markets, as well as looking at high-credit single-tenant properties versus multi-tenant assets. “We’re really seeing that movement in non-gateway markets as one of the more interesting facets of where (foreign) investors who are doing office acquisitions are focused,” adds Coleman.
Gateway cities still dominate in terms of total volume of cross-border investment sales. However, there has also been noticeable deal acceleration in secondary markets, including Dallas, Houston, Minneapolis and Tampa, Fla. “It’s definitely eclectic and there are actually quite a few markets that are seeing average volumes around $1 billion per annum,” says Bitner.
Foreign capital is also expanding out into non-core property types, such as seniors and student housing. “I think you may even see them get into manufactured homes and the self-storage sector,” adds Bitner. That diversification is being driven by growing sophistication, comfort and knowledge of the U.S. market. “Those are the same factors that will lead more capital over time into more secondary markets,” he says.