Resetting Their Sights

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F ive of the top 10 Americas single-property sales during 2013 involved overseas capital, including the largest: a stake in the General Motors Building in Midtown Manhattan ( profiled in Deals of the Year, page 62 ). A partnership of Chinese developer Zhang Xin and M. Safra & Co., the investment arm of the Brazilian Safra family, paid $1.4 billion for a 40% interest in the landmark office tower at 767 Fifth Ave. All five of these sales were in the office sector, with a New York City asset changing hands in all but one of these deals, according to Real Capital Analytics data.

However, office—in Manhattan or elsewhere—was not the biggest draw for foreign capital last year. Neither was multifamily, despite its continuing allure for buyers of all stripes. Instead, the most recent annual survey by the Association of Foreign Investors in Real Estate put industrial in the top spot.

This doesn't mean we'll soon see representatives from the Government of Singapore Investment Corp., which in January partnered on a $1.3-billion deal for the Time Warner Center in New York City, inspecting 30,000-square-foot warehouses in less-populated corners of Iowa. Yet it does point to a greater willingness on the part of overseas buyers to look at properties other than the handful of Manhattan office trophies that may go on the block in the course of a year.

As a case in point, consider the forays into the US last year by Norges Bank Investment Management, the asset manager for the Norwegian sovereign wealth fund. While two of them—partnering with TIAA-CREF and MetLife, respectively—focused on office in gateway markets, NBIM also followed up its earlier JV with Prologis in Europe to forge a $1-billion partnership on 66 domestic industrial properties.

On a much smaller scale, but no less telling as a deal, a 26,000-square-foot warehouse in the Miami suburb of Opa-Locka, FL traded to a Guyana-based medical group for $1.8 million in early March. The property formerly was occupied by surgical supplies distributor American Medical Depot.

“The REITS are delivering larger industrial product to the market, but the 25,000- to 50,000-square-foot facilities are difficult to come by and, as a result, are attracting enormous interest, especially among the foreign investors, who tend to be cash buyers,” says Danny Zelonker, principal of Real Miami Commercial Real Estate and broker on the transaction. “We had three contracts on this facility alone.” And in a sector that's also far removed from trophy office—although related to multifamily, another favorite of foreign buyers—US student housing reportedly has drawn strong interest from buyers in Asia and Europe.

Two-thirds of the respondents to AFIRE's survey said they favor investments beyond the gateway cities. That willingness to step outside a narrowly defined comfort zone is easier to understand when you consider that roughly the same percentage of AFIRE members also rated the US as the world's most stable and secure market, well ahead of second-ranked Germany.

“Our members' increasing interest in cities beyond the powerhouses of New York, Washington and San Francisco points to the recognition of additional investment opportunities for foreign investors,” says James A. Fetgatter, AFIRE's chief executive. He adds, however, that an overhaul of the currently “burdensome and complicated” FIRPTA regulatory regime would turn more window shoppers into buyers.

Yolanda Barnes, director with Savills World Research, also sees regulatory considerations stymieing buyers from outside the US. “US tax policy is still cited as a major hurdle to international investors, both in the residential and commercial sectors,” she tells Real Estate Forum. “Proposed changes would set the scene for significantly more investment waiting in the wings.”

Even with FIRPTA's burdens weighing on them, overseas investors are widely expected to become more active this year, according to AFIRE's latest survey. Similarly, law firm Akerman's survey of real estate executives in March found a prevailing sentiment that foreign investment will further drive activity across many US real estate sectors, with a third of respondents indicating that the nation will see an increase in foreign spending in 2014.

Such an increase would be in keeping with recent history. In 2013, $38.7 billion of foreign investments closed in the US, a 40% increase over the year prior. “Every year, we break a new record for foreign investment into US commercial real estate,” says Steve Collins, international director at JLL. While “top-tier markets” such as New York City, Los Angeles and Chicago are most favored by buyers from overseas, “even select secondary markets such as Dallas, Houston and Seattle are getting in on the game,” he adds.

Elsewhere under the JLL umbrella, LaSalle Investment Management has made moves to facilitate activity from overseas. In February, LaSalle announced it had expanded and rebranded its separate accounts business in the Americas as the custom accounts group, tapping Karen Brennan, a 15-year veteran of the firm, to lead the new business unit. The business will be expanded to include one-off joint venture investments as well as club deals. “We're seeing an increasing flow of domestic and international investor capital toward customized single-investor or club-style investment strategies,” Jason Kern, LaSalle's CEO for the Americas, said in February.

The appeal of US real estate's stability and potential for capital appreciation—also top-ranked by AFIRE members—has spurred many investors to search for what's actually available as opposed to what's most sought after. “For a long time, there was a flight to quality among foreign buyers,” Jahn Brodwin, senior managing director in the real estate solutions practice at FTI Consulting in New York City, tells Forum. “I would meet with people who were highly interested in buying class A Manhattan office buildings that were fully leased long-term with credit tenants, and they wanted to buy them at 6% caps.” Of course, everyone else wanted to make these deals as well, he adds. “Or I saw investors who had a lot of money allocated to buy real estate in the US but found themselves sitting on the sidelines because they couldn't buy what they wanted. It just didn't exist at the price point they were willing to pay.”

In the past six months to a year, Brodwin says, “A lot of companies have reset their sights. Where a lot of them were coming in and saying, 'New York City class A only,' now they're saying, 'We'll do class B, we'll do value-add, it doesn't have to be core.” And they've gone outside New York into other markets, such as San Francisco or Chicago, “where they can find properties that will allow them to achieve their financial goals.”

Foreign buyers are showing greater willingness to seek opportunities outside the old standbys because they've become more familiar with the lay of the land, Brodwin agrees. It doesn't necessarily mean they go it alone on acquisitions, though. “Certain buyers, particularly Asians, tend to like owning 100%,” he says. “They don't have local offices, so typically they hire local teams to do both property management and asset management.”

Conversely, Brodwin says, “A lot of foreign investors are teaming up with local operators. They're not just buying the real estate; they're buying the platforms or buying into the platforms. In the past, they would buy a piece of the property and invest through limited-partner funds, but a lot of them are now saying, 'No, we want a pure alignment of interests with our local partner. So if I'm going to invest side-by-side with them, I also want to own a piece of their operating platform.'” This arrangement eliminates the need for “arguments or discussions about what fair-market fees are” because the foreign investor is participating in the profits.

Institutional investors from overseas may gravitate toward partnerships for other reasons, as well. Take those from Israel, a group Robert Ivanhoe, chair of the real estate department at law firm Greenberg Traurig, sees becoming increasingly active here. “Structurally, they almost need it,” Ivanhoe tells Forum. “Israeli investors are very constrained by regulations. An insurance company cannot own more than 49% of the equity in a foreign investment. So often, they have to pair up.”

Due to both philosophy and their own internal guidelines and bylaws, Israeli institutions often avoid certain types of investment, says Ivanhoe. “They don't like development and they tend to not like hotels,” he says. As a result, when Ivanhoe visited Israel last year to discuss domestic clients' potential investing opportunities for Israelis, hotel or development deals were “complete nonstarters.”

In multifamily, Israelis tend to shy away from for-sale apartments but favor rentals, Ivanhoe says. Industrial is “pretty far down the list” of priorities for them. Geographically, “they tend to like the gateway markets or maybe they'll dip into secondary markets carefully, but not further than that in terms of the risk spectrum.”

Conservative investing is also a hallmark of US life insurers and pension funds, and Ivanhoe says that if anything, Israelis are even more inclined in this direction. “The Americans tend to make different kinds of allocations, where they might allocate some of their investments in higher risk and mitigate that by diversifying across the spectrum,” he says. “In Israel, it seems to be focused much more on a down-the-middle type of strategy.”

Potentially, Israeli investors could make acquisitions here “in the tens of billions,” Ivanhoe says, although they face challenges both in finding investment opportunities that meet their criteria and in closing transactions within the narrow timeframe that competitive dealmaking often demands in 2014.

An already-established powerhouse here is the US' northern neighbor, which in 2013 represented nearly one-third of all foreign investment activity here. “These investors are focused on developing partnerships with REITs and capitalizing on multifamily property opportunities, particularly in emerging Sunbelt markets such as Tampa, Raleigh and Phoenix,” according to JLL.

And while Chinese investors already figured in 2013's single-largest commercial property sale, we can expect more from them in the future. Savills notes that Chinese investors are expected to increase their cross-border hotel acquisitions 10% by 2017, and JLL notes that buyers from that nation allocated $3 billion to US real estate last year, mainly for class A and trophy office assets.

Capital from Down Under spent $2.6 billion on US commercial properties in 2013, making Australia the third-largest foreign investment presence of the year. JLL notes that it's expected to become an even bigger player in the US market over the next several years.

More than half the respondents to Akerman's survey predict that multifamily will be the most active market for foreign investment in the US in 2014, with the majority of capital coming from Europe. In hospitality and industrial, about half of real estate executives surveyed predicted that investment would come from Latin America while capital sources for retail and office deals would mainly be European and Chinese. Fifty-one percent said the greatest increase in Latin American real estate investment in the US would come from Brazil.

“A lot of countries have mandates periodically to invest in the United States, and there's a double trigger with regard to their profitability when investing here,” Brodwin says. “They obviously get the opportunity to make money owning our assets, but it's also a currency play and an inflation hedge. They're buying assets denominated in US dollars and converting their local currency into US dollars and investing for the long term.”

Brodwin says overseas investors view US currency as both “stable and undervalued. So in certain cases during the underwritings, when they're sensitizing their own return potentials, they're absolutely looking at the currency play, not just the real estate play.”

Vladimir Putin's incursion into Ukraine was in progress when Forum spoke with Brodwin. Against a backdrop of political volatility elsewhere, “The US continues to be viewed as a very stable marketplace with a stable government,” he says. “With these types of events occurring internationally, it certainly helps the US marketplace look even more attractive as a safe haven.”

Further, not only politics but also currency in emerging markets have fluctuated widely over the years, “whereas the US currency does go up and down, but much more slowly,” says Brodwin. With that in mind, investors from overseas are looking for ways to “hedge that exposure. You can't economically hedge currency risk in Vietnam, for example, or in some of the former Soviet-bloc countries.” ?

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