The Federal Reserve, which last month indicated the potential for three interest rate cuts this year, is expected to provide additional guidance around its plans this week at its first meeting of 2024 – and commercial real estate lenders, investors and advisers believe the central bank’s plans will set the tone for the first half of the year.
The meeting comes as transaction activity has started to tick up after a slow 2023, according to Ernie Katai, an executive vice-president at New York-based advisory Berkadia. The firm saw a strong end to last year in its investment sales and financing businesses, which has continued through the first part of this year.
“The slowdown in 2023 came after the Treasury whipsawed in the US and went up very quickly in a very short period, which made people move to the sidelines in order to get clarity,” Katai said. “The one thing you learn quickly in the business is that the market hates nothing more than uncertainty.”
But over the past few weeks, the Treasury seems to have stabilized at around 4 percent. “A 4 percent Treasury is a workable Treasury, and we will see more people transact around that,” Katai said.
John Beuerlein, chief economist at Minneapolis-based investment manager Pohlad Companies, believes there is a disconnect between what the markets believe will happen and what the Federal Reserve has signaled.
“However, there [is] nothing to suggest that the Fed is close to starting to cut rates, or that it plans to cut rates as much as markets are currently expecting,” Beuerlein said. “While interest rates may have peaked, the Fed appears willing to keep rates elevated until they see a more substantial slowdown in the economy and sustained easing of inflationary pressures.”
Capital looking toward the US
Berkadia last year formed a partnership with the London-based property consultancy Knight Frank. The firm is one of the world’s leading independent real estate consultancies, and operates in Europe, Asia-Pacific, the Middle East, Africa and the Americas. Both firms have global capital relationships and Katai noted that over the past nine months, Berkadia and Knight Frank have seen more institutional and private investors express interest in finding more opportunities to lend and invest in the US.
The multifamily sector, which is a dominant one for both firms, is of particular interest, Katai said.
“I think we have a whole mindset in the US that being a renter for life is not a bad situation because of the lifestyle and the flexibility. Another factor is the recent uptick in rates and costs of homeownership and the high quality of the apartment product we are seeing is amazing as well,” Katai added.
James Mannix, a partner at Knight Frank heading up living sectors, noted the need for housing is a global one that is being seen throughout the world.
“We are also seeing that the population outside of America is becoming increasingly accustomed to renting,” Mannix added. “From a capital perspective, we are seeing huge amounts of capital from wealthy private families to institutions and pension funds who see the income has been consistent and relatively inflation-linked. They may be having a wobble on the retail or the office sector but are seeing a very stable income stream in the multifamily sector.”
Katai noted that valuation is a key question for all market participants given the lack of comps and a higher interest rate environment. Cap rates and exit cap rates – key metrics for valuation – have both increased.
“One of the questions we are asking is, ‘What is a stabilized exit cap rate?’ I don’t think anyone could put their finger on it right now,” Katai added. “The other question is around rate caps. We are seeing some pressure on certain clients who have rate caps they have to renew and those could range from a million to a few million dollars on a single property. That is causing some stress in the system, but we are hoping to have more clarity in the next 60 days.”
Buildings are beginning to trade, in the US and farther afield, Katai added.
“Money is on the sidelines, but it is there,” Katai said. “For the first time in a long time we are seeing assets sell that are under replacement costs. If you can, in some of these good markets where land is scarce, buy assets under replacement costs, people will continue to look at that.”
Mannix noted that from where Knight Frank sits, the story today is more around stress than distress.
“People are sitting on much higher debt than we thought they’d be sitting on, and we are seeing the first stressed assets coming through now,” Mannix said. “The money is starting to come off the sidelines. Things are cheaper than they were and they’re cheaper than they’re going to be and there is a view that debt will be increasingly accretive later in the year than it is now.”