Marcus & Millichap

Emerging Trends: Expectation Gap Widens

Special Research Report

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Real Estate Investors Re-Evaluate Transactions Amid Shifting Landscape;
Strong Performance Supports Extended Outlook

Unforeseen events tap the brakes of the investment market.The unanticipated results of the presidential election sparked a shift in several macro-level dynamics that have begun to ripple through the commercial real estate market. A rapid 60-basis-point increase in the yield on the U.S. 10-year Treasury followed the election, combining with expectations of changes to the tax code in 2017 to inspire many commercial real estate investors to step back and reassess their strategies. Some transactions that were targeting a 2016 close will likely be delayed or canceled as investors and lenders recalibrate their underwriting assumptions. Typically the fourth quarter constitutes 28.2 percent of the annual commercial real estate transactional activity, and last year a record 15,350 transactions pricing for more than $1 million in the four main property types were closed in this period. The unexpected result of the election and its implications will likely downshift transaction activity this year.

Sales of investment properties hit a post-recession high last year. Commercial real estate sales had already shown signs of moderating from the peak levels set in 2015, but the rapidly evolving 2017 outlook under a new president has added an additional element of uncertainty for some investors. Prospective modifications to fiscal, monetary, regulatory and trade policies brought on by the new administration could hold significant implications for investors in commercial real estate. While the expected changes are not likely to dramatically impact the underlying drivers that are supporting commercial real estate performance, an anticipated increase in the cost of capital and potentially substantive tax consequences were sufficient for many to reconsider the deals currently in process.

Prospects for strong property performance remain intact. The proposed policy changes of the new administration have inspired numerous economists to boost their growth forecasts for 2017, which bodes well for commercial real estate performance and fundamentals. However, the strengthened economic outlook, together with prospects of a more aggressive Federal Reserve acting to normalize monetary policy, combined to quickly boost the value of the U.S. dollar versus foreign currencies in the aftermath of the election. This 4.1 percent rise in the dollar added a near-term hurdle for foreign investors, who must now reassess any transactions they had in process. Although foreign capital comprises a relatively small portion of the U.S. commercial property buyer pool, a temporary pullback in activity by these investors because of their loss of purchasing power could influence total transactional counts for the fourth quarter and affect asset pricing.

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