Investment capital has been flowing to real estate…why? The demand for real estate depends on economic activity and economic growth. Does this make sense in an economy that is growing slowly, has many risks to the downside, in a low interest rate environment, and with the potential for future inflation because of all the liquidity/flow of money into the economies of the US and Europe?My answer is yes….but more importantly is the reasons I will present for why commercial real estate—core commercial real estate-- makes eminent sense in a multi-asset portfolio. My task to give you a global perspective for CRE; how it performed? And why?How will it perform in the future?? Why?Investment performance for one, but past returns are not future returns.But for other reasons: diversification within a portfolioYield vs. other fixed income….Capital preservation along with long term appreciation…safer asset Investing vs. trading focusPotential inflation hedge if buy at right time.
- NAFTA includes: US, Canada and Mexico - Europe includes the following 40 Countries: AlbaniaAndorraAustriaBelgiumBulgariaBosnia and HerzegovinaSwitzerlandCyprusCzech RepublicGermanyDenmarkSpainEstoniaFinlandFranceUnited KingdomGreeceCroatia (Hrvatska)HungaryIrelandIcelandItalyKosovoLiechtensteinLithuaniaLuxembourgLatviaMacedoniaMaltaMontenegroNetherlandsNorwayPolandPortugalRomaniaSerbia (former Fed. Rep. of Yugoslavia)SlovakiaSloveniaSwedenTurkey
Refer to rogoff and second great contraction…Need to define low…. See luciannawef table and good health, vs poor health vs improving health.Note that good heatlh is not the numbers seen in 2005-2007 globally..they were pumped up by debtThe avg of key banks etc for 2012 is 2.9%--see spreadsheet. All are downgrades from mid year, when avg was 3.6% and for 2013 the avg is 3.2%, up but not much. Global growth is slower than 2005-07 everywhere due to boomerang….following a financial crisis, 13 countries..1990’s govt debt increased 86%.DISCUSS THE END GAME TO DEBT….FINANCIAL REPRESSION, HIGHER TAXES AND LOW GROWTH….PLUS MAYBE INFLATION, DEFAUTS AND BETTER TAX REFORM,(HIGHER TAXES) WITH GROWTH.Emphasize that this is liquidly, not solvency….
Given that the U.S. holds the largest and majority share of GDP, it’s natural for us to predominantly focus on its indicators in evaluating the state of the Americas CRE recovery. So, these next few slides will provide several key indicators as an evaluation of whether we can truly ascertain that the economy has recovered.
How do we define recovery? It is very important to determine this when we evaluate whether and the degree to which the US economy and the US CRE market have entered recovery. In this graphic, we demonstrate that I am defining recovery as the point at which the current cycle reaches its pre-recession peak. So as we progress through this presentation, we will consistently be looking at whether a particular series or economic or real estate indicator has reached its pre-recession peak. If that series or indicator hasn’t reached it’s pre-recession peak, oftentimes, we will look at how far the current point is away from its previous peak. This allows for an opportunity to compare markets against one another to determine which markets are performing the best.
2011 ended with a moderate amount of optimism relative to expectations as the growth witnessed in the fourth growth was the largest seen all year. This chart quite clearly shows that US Real Gross Domestic Product GDP has recovered its pre-recession peak level as of Q3 2011. The most recent Real GDP report from the Bureau of Economic Analysis reported that GDP increased at an annual rate of 3.0 percent in the 4th quarter of 2011 (quarter-over-quarter). The increase in GDP quarterly growth was primarily influenced by more spending and investment (positive contributions from private inventory investment, personal consumptions, nonresidential fix investment, exports, and residential fixed investment). The Q4 quarterly growth was however dragged down by the public sector and, was not surprisingly, offset by negative contributions from the federal, state and local government spending.
Despite the recovery witnessed in the overall GDP level, another very useful measure of the overall U.S. recovery is GDP per capita, which remains well below its pre-recession level. While private consumer spending and modest business investment (on technology investment for example) have boosted the overall GDP level, standard of living as measured by Real GDP per Capita still has room for improvement.
Not only have prices dropped, but owner’s equity has dropped as well – to roughly only 38% of total household real estate value. This level is significantly below the pre-recession peak where owner’s equity held steady around 60% of total household real estate. Prior to the recession, and during a stage when access to credit was high, many homeowners took out second mortgages thus depleting their equity and resulting in the levels we see today. With personal savings rates gradually increasing, these equity rates will likely gradually increase as well.
This is US and 1 and 10 year…. As of 2nd Quarter…Note unleveraged and leveragedBetter than inflation….CONCLUSIONS…CRE HAS DONE BETTER THAN STOCKS AND BONDS IN US FOR LAST 10 YEARS… AND DONE BETTER THAN INFLATION… even for 5 years globally 2007-2011..done 3.1% and about = bonds at 2.9%BUT HERE IS QUESTION: WHAT IS FUTURE? WHAT MIGHT FUTURE RETURNS LOOK LIKE….??? Indices Explanation: NPI- The NCREIF Property Index is a quarterly time series composite total rate of return measure of investment performance of a very large pool of individual commercial real estate properties acquired in the private market for investment purposes only. NFI-ODCE:The NFI-ODCE, short for NCREIF Fund Index - Open End Diversified Core Equity, is the first of the NCREIF Fund Database products and is an index of investment returns reporting on both a historical and current basis the results of 26 open-end commingled funds pursuing a core investment strategy, some of which have performance histories dating back to the 1970s. The NFI-ODCE Index is capitalization-weighted and is reported gross of fees. Measurement is time-weighted. NCREIF will calculate the overall aggregated Index return.A fund must market itself as an open-end commingled fund pursuing a diversified core investment strategy, primarily investing in private equity real estate with the following guidelines. Barclays Capital Gvt Bond Index: The index measures the performance of U.S. Dollar denominated U.S. Treasuries, government-related and investment grade U.S. corporate securities that have a remaining maturity of greater than one year and less than ten years.Barclays Capitial US Gvt/Credit Index: The Barclays Capital Long Government/Credit Index measures the investment return of all medium and larger public issues of U.S. Treasury, agency, investment-grade corporate, and investment-grade international dollar-denominated bonds with maturities longer than 10 years. The average maturity is approximately 20 years.
How should we think about real estate??WE BUY REAL ESTATE FOR INCOME AND APPRECIATIONWE KNOW THAT REAL ESTATE IS CYCLICAL, WE KNOW THAT OLD ADAGE, YOU MAKE YOUR MONEY ON THE BUY!!!SO WHERE IS INCOME AND YIELD GOING, ANDARE PRICES TOO HIGH TODAY?
Noi is fundamentals and g is growth in fundamental In recent years values driven rr falling….not by noi and g,,,,,, it is spreads and r which is required returns…Questions: will r rise?? Where is NOI going….Entering a period with more volatility in prices than in earnings.Also question of how much systemic diversification do you get across msa, etc, if lots of correlations…
Transitioning to the U.S. Capital markets, this chart gives a perspective of where real estate transaction volumes stand for the U.S. It’s important to note that, as was the case for the share of GDP, the U.S. holds the majority share of transaction volumes relative to the other Americas countries. Thus, for the purposes of gaining an overview on the market it is appropriate to look at the U.S. first and foremost. The Americas has witnessed an upswing in investment activity (both from domestic and cross-border flows), however as can be seen from this chart, the volume remains well below pre-recession levels. The average quarterly transaction volume for 2007 was $104 Billion USD, while the average quarterly investment volume for 2011 was $45 Billion USD. As measured by the share of Global Transactions, the U.S. regained a 41.9% quarterly average share of total global transactions, which was a slight decline relative to the 48.1% average quarterly share experienced in 2007.
Gateway markets such as New York, Chicago and Boston, and prime properties in CBD locations continued to witness the greatest investor attention given their relatively more liquid conditions and reliable income streams from highly rated occupiers. An unusually high pricing gap has been witnessed in recent quarters between CBD and suburban major metro areas. On a more granular level, this slide demonstrates that, as was the case with rents, none of the key US office markets have witnessed a full recovery (contraction) in pre-recession cap rate levels. However, it’s worth noting just how much each metro area has compressed from its most recent cyclic high- this was also the case with rents. Both measures show the metro areas short of their pre-recession conditions, but considerably improved from their cyclic troughs. Notably, though, you’ll see that the compression in cap rates has outpaced the recovery in rents, which leads one to question whether pricing could correct itself, or more than likely remain static over the near future while fundamentals’ performance in the leasing market catches up. Slide Note: The Cyclical High was chosen as the highest rate after the cyclical low. The Cyclical Low was chosen as the lowest rate from the most recent cycle (i.e. prior to the onset of Global Financial Crisis)...
Having covered several key economic indicators and keeping that perspective in mind, we now turn to the CRE leasing market. Office, Multi-housing and Hotels have all regained their normal vacancy rates, however as shown in the slide above (and in keeping with our “Defining Recovery” theme, EVERY property type’s occupancy rate remains below their pre-recession peak). While employment growth has only just recently showed signs of measurable improvement, the hotel demand recovery (which is highly correlated with GDP growth) surged on during 2010 and 2011. The impressive recovery in demand (seen in the chart) in 2010 was brought on when GDP was growing at over 3% per quarter (y-o-y) and thus business confidence brought increases in business travel as well as leisure travel. Thus, while the demand recovery was strong in 2011, it was not nearly as high as the improvement witnessed in 2010. Many sectors are highly linked to the labor market and given that employment gains remain muted, tenants are still in the process of shedding shadow space and finding ways to make efficient use of space amidst the prevailing global economic uncertainty, so occupancy improvements, while positive, remain gradual particularly for the Office and Retail sectors. The office sector experienced a setback in its recovery in terms of its occupancy rate as a result of the slowdown in hiring that occurred towards the second half of 2011. More hiring will be necessary for occupancy to reach pre-recession levels. - Multi-housing’s occupancy rate remains closest to each pre-recession peak of any other property type. Gradual improvements in the labor market during the first half of 2011 helped the multi-housing sector which has experienced accelerated demand in the last couple quarters. Q1’s drop in vacancy (90 bps drop to 5.1%) was the largest bps drop experienced since 2010. Industrial (with a vacancy rate of 13.4%) has been undergoing 7 straight quarters of vacancy declines (occupancy increases) thanks to the fact that demand has been growing much faster than any increases in supply. With trade flows still muted and domestic consumption still down, the industrial rate remains above its normal rate and is not expected to return to that rate until Q2 2014. The retail recovery (with a currency vacancy rate of 13.1%) continues to experience challenges and retailers remain wary of taking on new space. The retail vacancy rate also remains above its normal rate and it is not expected to return to normal rates until Q4 2014. Interestingly, the pace and strength of the U.S. consumer recovery is somewhat disconnected from the retail recovery, as while core retail sales grew impressively in February (and even higher than the holiday season), retailers remain cautious and are not correspondingly absorbing new space.
As is quite evident from this slide, Multi-housing is the only U.S. sector that has entered the expansion phase of its revenues (and emerged from it’s recovery phase). Now that the Multi-housing sector has entered the expansion phase, we can expect to see new construction activity gain momentum. The hotels property type remains the next closest in-line to emerging from its recovery phase while Retail and Industrial revenues both remain farthest from their previous peak (with rents prevailing at historically low levels). Demand growth and vacancy declines in nearly every sector other than Multi-housing and Hotels have remained gradual over the course of 2011 given the prevailing global economic uncertainty (only gradual improvements in employment), and as a result, rents have not had the opportunity to regain enough traction to recover previous peak levels.
As was the case with the only gradual occupancy improvements for Office, rents for key markets in the office sector have not yet recovered their previous peak levels. Before the office market can recover what was lost, the labor market will need to witness more hiring by business owners to allow for demand (occupancy) to improve and then for rents to follow.
In addition to a depressed housing market and historically high unemployment rates, the debt crisis here in the U.S. (as well as the crises in Europe) contributes to market volatility and dampens both consumer and business confidence. Moreover, uncertainty abounds as to how the Federal Government economic policies will be handled in the future. The last time the government recorded a surplus was in 2001. As can be seen from this chart, 2011’s outlays exceeded 24% of GDP, while receipts were just over 15% of GDP. Current levels remain very large relative to historic perspectives. Now, the U.S. mountain of debt continues to accumulate, and while the deficit continues to shrink, the gap between spending and revenues will persist. The Congressional Budget Office estimates that the deficit for the 2012 budget year will be $1.17 trillion USD (7% of GDP). 2012’s estimated deficit will be a slight improvement from 2011’s $1.3 trillion USD deficit (8.7% of GDP, which was the largest deficit in the last 40 years). The CBO’s outlook for deficits over the next several years decline substantially and average 1.5% of GDP, however these estimates assume substantial changes to tax and spending polices scheduled to take effect around the beginning of 2013. OutlaysLong Term Average (1980-2011) = 21.2%1980’s Average = 22.2%1990’s Average = 20.7%2000’s Average = 20.0%2010 and 2011 Average = 24.1%ReceiptsLong Term Average (1980-2011) = 18.0%1980’s Average = 18.3%1990’s Average = 18.5%2000’s Average = 17.7%2010 and 2011 Average = 15.3%
In, December 2010, the Bush Tax cuts were extended 24 months and the Payroll tax cut was extended 12 months. Congress must now make all decisions as to whether to let these cuts expire by January 2013. If the House and Senate don’t act soon enough the Bush Tax cuts will expire, the Temporary Payroll tax cut will end, and unemployment benefits will be severely curtailed. (ALL on January 1, 2013). Bush Tax cuts expire (includes rate increases, child tax credit reductions, estate tax increases, marriage penalty increases and other tax benefits for education, retirement savings and low-income individuals) A 200 basis point increase in Federal Payroll Tax Decreased unemployment benefitsAdditionally,Sequestration laws (Mandatory Spending Cuts),which are scheduled to make automaticspending cuts to defense and other programs will kick in (related to the Budget Control Act – debt ceiling debate agreement of August 2011). The “Super Committee” was unable to come to agreements as to how they will cut spending, so these Sequestration laws will kick in at the start of 2013 as well. Alan Blinder: “The U.S. Cruises Toward a 2013 Fiscal Cliff,” “If all fiscal policy changes occur, the combined contraction would amount to roughly 3.5% of GDP”.
With the progressively shrinking political overlap between the two U.S. political parties in Congress, the more unsettled the U.S. becomes as to the capability of Congress to adequately address the many issues facing the nation’s long term fiscal sustainability. We saw the consequences of this first hand last August with the S&P downgrade of the U.S. credit rating amidst the U.S. debt ceiling debates. The political divide will continue to cause volatility and promote uncertainty for not only the U.S. economy, but also the global economy.
Pdf version for flash drive torto_utah -august 14v1
An InconvenientWorld …Presented by:Raymond G. Torto, Ph.D, CREGlobal Chief EconomistCBRE7th Annual Mid-Year Economic Real EstateSymposiumAugust 14, 2012Global Research and Consulting
Regional Shares of World Output and PopulationSource: IHS Global Insight, Q3 2012Global Research and ConsultingCBRE | Page 2
The Global Outlook The global economy is behaving precisely as the history of financial crises have shown: Vulnerable to too much debt! “Low”-- sub-normal-- global economic growth is expected for balance of decade with slowest period from now to 2014/2015. Low growth, excess capacity implies low interest rates and low global inflation for several more years. However, interest rates will be lower than inflation rates!— ”financial repression” Global electoral cycle and policy/political discourse portends political paralysis—fostering a “muddling through” as opposed to decisive action.Global Research and ConsultingCBRE | Page 3
U.S. EconomyPerformanceGlobal Research and Consulting
Defining “Recovery” Return toPrevious Previous Peak Peak Trough Global Research and Consulting CBRE | Page 5
U.S. Real GDP Has Recovered!Real GDP, Billions USD $14,000 Q3 2011 $13,500 $13,000 $12,500 $12,000 $11,500 $11,000 Real Gross Domestic Product Source: IHS Global Insight, data through Q1 2012. Global Research and Consulting CBRE | Page 6
U.S. Real GDP Per Capita Has Not RecoveredReal GDP Per Capita, USD $45,000 $44,000 $43,000 $42,000 $41,000 $40,000 $39,000 Real Gross Domestic Product per Capita Source: IHS Global Insight, data through Q1 2012. Global Research and Consulting CBRE | Page 7
Population Growth by Region 2010 2030 Growth Number Population Population Population North 344 m 401m + 16% 57m America Latin America 590m 701m +18% 111m Asia 3.9b 4.5b +15% 600m 741m Europe 738m 0 3m Middle East 1,297m 1,949m +50% 652m and Africa Total 1,423mGlobal Research and ConsultingCBRE | Page 8
The Great (Deepest) U.S. Recession Source: Calculated Risk, July 2012Global Research and ConsultingCBRE | Page 9
Except for the Great U.S. Depression!Global Research and Consulting Source: Calculated Risk, July 2012CBRE | Page 10
Owner’s Equity has Dropped to 38%Owner’s Equity in Real Estate, USD Millions Owner’s Equity as a Percentage of Household Real Estate, %16,000,000 7014,000,000 6512,000,000 6010,000,000 55 8,000,000 50 6,000,000 45 4,000,000 40 2,000,000 35 0 30 2011 1990 1993 1996 1999 2002 2005 2008 Households Owners Equity in Real Estate Owners Equity as a Percentage of Household Real Estate Source: Federal Reserve Flow of Funds B.100 (Q) Balance Sheet Households and Nonprofit Organizations, n.s.a. Global Research and Consulting CBRE | Page 11
Real EstatePerformanceGlobal Research and Consulting
U.S. Real Estate vs. Other Assets: 1 and 10 year Returns Total Return Index Comparison as of March 31, 2012 1 Year 10 Year 23.8 13.4 12.6 11.8 11.3 10.4 8.2 7.9 5.5 4.1 2.7 2.5 NPI NPI-Leverage Barclays Capital Consumer Price NAREIT Equity S&P 500 Index Gct Bond Index Index REIT Index Source: NCREIF as of March 31, 2012.Global Research and ConsultingCBRE | Page 13
Thinking AboutCommercial RealEstateGlobal Research and Consulting
_NOI_ r-gGlobal Research and ConsultingCBRE | Page 15
U.S. TransactionVolume & PricingGlobal Research and Consulting
U.S. Transaction VolumeU.S. Transaction Volume, USD Billions U.S. Share of Global Transaction Volume, %$140 50% 45%$120 40%$100 35% 30%$80 25%$60 20%$40 15% 10%$20 5% $- 0% Unites States Transaction Volume Average Transaction Volume 2007 U.S. Share of Global Total Source: RCA as of Q3 2012. Global Research and Consulting CBRE | Page 17
US Office Cap RatesCap Rate, % Cyclical High Cyclical* Low Current Cap Rate (Q1 2012)1098 7.4 7.6 7.4 7.37 6.9 6.9 6.7 6.3 6.36 5.754 The Cyclical High was chosen as the highest rate after the cyclical low. The Cyclical Low was chosen as the lowest rate from the most recent cycle (i.e. prior to the onset of Global Financial Crisis)... Source: CBRE Research and RCA as of Q3 2012; smoothed annual weighted average cap rates used. Global Research and Consulting CBRE | Page 18
U.S. Occupancy Trends Occupancy, Indexed to Q1 2004110 Hotel105 MFH100 Office Industrial95 Retail90 Multi-Housing Industrial Office Retail Hotel *4 quarter rolling average taken and index is based off that; so for example, the Q1 2004 base figure is the average occupancy from Q2 2003-Q1 2004. As of the time of update, Q2 data is not yet available. Source: CBRE EA Outlook as of Q3 2012. Global Research and Consulting CBRE | Page 20
Multi-Housing Enters Expansion PhasePercent 5 0 -5 -10 -15 -20 -25 -30 -35 Multi-Housing Hotels Office Retail Industrial Q1 2012 Revenue as % of Last Peak Q1 2012 Real Rent as % of Long-Term Average Source: CBRE EA Outlook, Q1 2012. Global Research and Consulting CBRE | Page 21
U.S. TW Rent Index: Office Recovery Progress Changes in Rents: Peak-to-Trough and Peak to Q2 2012Change in TW Rent Index (%) 5% 0% -5% -10% -15% -20% -25% -30% -35% Peak To Trough Peak to Current Source: CBRE EA Outlook, Q2 2012.Global Research and ConsultingCBRE | Page 22
U.S. Outlays and Receipts Historical Government Receipts and Outlays as % of GDPReceipts/Outlays, % GDP26%24%22%20%18%16%14%12% Receipts as % of GDP Outlays as % of GDP Source: Office of Management and Budget Historical Table 1.2. Global Research and Consulting CBRE | Page 24
Fiscal Cliff The Challenge Facing the U.S. Fiscal Policies Scheduled for January 2013: Bush Tax cuts Expire Increase in Federal Payroll Tax Decreased unemployment benefits Mandatory spending cuts to defense and other programsGlobal Research and ConsultingCBRE | Page 25
U.S Political Divide Shrinking Overlap between the Two Parties in the U.S. Congress The charts sort Republicans and Democrats by roll call votes along the horizontal axis. Source: Royce Carroll, Rice University.Global Research and ConsultingCBRE | Page 26
Thank YouRaymond G. Torto, PhDGlobal Chief Economistraymond.email@example.comGlobal Research and Consulting
Raymond Torto, PhD, CRE Ray Torto is CBRE’s Global Chief Economist. He directs CBRE’s worldwide team of commercial real estate market analysts and serves as the firm’s primary spokesperson on macro economic issues and the global commercial real estate market. Ray earned his Ph.D. in Economics from Boston College. He is active in many organizations including Chairman of the Pension Real Estate Association and the Real Estate Roundtable. A former professor and author, he currently teaches Executive Education in the Harvard School of Design. firstname.lastname@example.orgGlobal Research and ConsultingCBRE | Page 28
Disclosures: Raymond G. Torto The information presented reflects the opinions of Raymond G. Torto based on sources and data believed to be reliable. Although the information used has been obtained from sources believed to be reliable, CBRE and CBRE Econometrics Advisors (formerly Torto Wheaton Research) does not guarantee its accuracy or completeness. This material is for private use and is for informational purposes only. Unauthorized distribution or use of the information is strictly prohibited and all rights to the material are reserved. There is no obligation to update or supplement this information at any time or in any way. Ray Torto is not a registered investment advisor. All contents of this work product and all projections, opinions and forecasts contained in the presentation are based upon historical events, trends and econometric models which are subject to material variation and interpretation. The material is also based upon various assumptions and is subject to significant uncertainties and contingencies, as well as possible typographical, arithmetic and other human error, and no representations or warranties, expressed or implied, as to the accuracy or completeness of the products and publications or any of their separate contents are made herein. This presentation does not take into account the investment objectives or financial situation of any particular person or institution.Global Research and ConsultingCBRE | Page 29