Caution Shrinks RE Deal Flow in 2016

All politics may be local, but elections can still have global consequences. The Brexit vote and the U.S. presidential election gave real estate investors around the world pause, keeping deal volume well below its heights in 2015. A dearth of megadeals was the biggest culprit for the drop, but cross border capital slowed as well. Investors are still waiting to see what those political events will mean long term, and preparing for a continued slowdown.

Transaction activity has certainly started to taper off, with Real Capital Analytics (RCA)reporting $816B in deals for the third quarter of 2016, an 11 percent drop from volume of $916B in Q3 2015, and it stands at the lowest level since Q3 2012 when there was $601B. 

“Last year we’d typically bid against seven to 10 parties for an asset, and this year, it’s been closer to two or three,” says Tim Wang of Clarion Partners. “There’s a lot of buyer hesitation.” Several market participants blame concerns over the U.S. election and the fallout from Brexit as the key reason for that hesitation.

RCA credits Brexit for sapping some U.K. activity. “London was already slowing down during the second half of 2015, but the third quarter was particularly sluggish,” says RCA’s Jim Costello. “By midyear, Los Angeles took London’s number two spot for total deal volume globally, dropping it to number four behind San Francisco.” 

However, the U.K. wasn’t the only region to see a slowdown; there was also a steep decline in cross-border moves around the globe. RCA reported a 31 percent decline from 2015 during the first three quarters of 2016, with the top 10 countries all reducing their activity. Costello does note that cross-border investors remain the most active in the current market. 

Most of the slowdown can be blamed on the lack of megadeals—those billion-dollar acquisitions of portfolios or whole entities that drove volume in 2015. In 2016, the rate of megadeals dropped 64 percent, year over year. While it was relatively easy to underwrite these megadeals in 2015, the CMBS market took a step back in 2016, drying up that financing source. “These aren’t deals your neighborhood bank finances,” says Costello. 

By comparison, RCA finds that single-asset deals are only off 2 percent for the year to date. “These deals are typically underwritten by the strengths of an individual market or property,” says Julie Donegan of Franklin Templeton. Donegan also notes that November and December tend to be busy, sometimes accounting for a third of the year’s activity. “So we’ll wait and see what the final numbers prove to be.” 

Even if the market rallies, RE investors have tempered their expectations for 2017. “People are more patient and looking for those idiosyncratic opportunities that may not have outsized returns, but promise less downside risk,” says Bob Flanigan of Hamilton Lane. Aberdeen Asset Management’s Russell Chaplin admits they’ve been in a defensive posture for some time now, citing a lack of deals that “stack up.” And Clarion’s Wang argues that it may take three to six months to see what will happen to key policies given the sweep from the Republican party in the recent election.