Can We Handle the Heat?

We all got our hopes up the first several months of this year as things started looking up in the market. Both leasing traffic and actual deal closings increased, as well as investment activity.

But some time around midyear, everything came to a halt. Uncertainty on the domestic front coupled with the global economic malaise to send individuals and businesses into a state of skittishness, at best—and paralysis, at worst.

Either way, it’s bad news for real estate. Things haven’t let up much since then, and what’s worse, it looks like we’ll be getting more of the same in 2012. Some even believe conditions may weaken further next year.

The one bright spot going into the new year is the investment market; prices on certain property types are considerably high as investors chase highly sought-after product like multifamily and net-leased assets. With their lease terms—short terms for apartments and locked-in terms for net lease—both of these products provide more certainty for investors that other asset classes.

My concern, however, is whether we’re getting ahead of ourselves too soon. So much capital is chasing these properties, especially multifamily, that prices are being bid up and cap rates are dropping. It’s almost reminiscent of the ’06 – ’08 era. Sure, it’s great to go after a quality property, but those are few and far between these days—at least, those that are available.

And now, it appears that two mega-giants of the investment world—Sam Zell’s Equity Residential and fresh-out-of-bankruptcy Lehman Brothers—may enter into a bidding war for Archstone, the former REIT that was taken private in 2007 in a $22-billion deal. The tycoon is offering $1.3 billion for a little over a one-quarter share in the company, but with the right of first refusal, Lehman may throw a wrench into Zell’s plans. We’ll see how that plays out.

While that’s a pretty significant deal by itself, it also has major implications for the market. Most importantly, depending on how high the price tag goes, it could be the catalyst for current owners to put the apartment assets on the market, or lure more investors onto the scene—or both.

Either way, I expect a transaction activity to leap as the year progresses. Hopefully fundamentals will strengthen at a similar pace. Otherwise, we may find ourselves in another bubble—and given the current health of the market, the repercussions of the burst may be even worse than the last time around.