Shifting from Defense to Offense

SAN FRANCISCO—“Small can be powerful,” according to the 37th annual Emerging Trends inReal Estate report co-published by PwC US and the Urban Land Institute. While the report uses that phrase specifically to discuss the specialization trend in development,   equity investment and lending, it might also describe the move away from a focus on big cities and big employers. Based on interviews with executives across a variety of industry sectors, the report finds that commercial real estate is focusing increasingly on the needs of smaller, but faster-growing, employers.

Among other trends identified in the PwC/ULI report, released in connection with ULI's Fall Meeting in San Francisco, that change in focus has strong implications for the office sector, ranging from redesign of traditional office layouts to an embrace of the coworking concept. “The speed at which all these changes appear to be taking place is reflected in interviewees' unusually frequent mention of repositioning and reuse of existing assets,” according to the report.

The trends identified in the latest Emerging Trends report have been emerging for awhile now. “Real estate is a relatively slow-moving asset class, and it doesn't trade with a CUSIP number every nanosecond, the way a stock or bond does,” Mitch Roschelle, partner and US real estate advisory practice leader at PwC, tells GlobeSt.com. “So it takes awhile for trends for materialize. But the abundance of evidence became clear this year, compared to prior years.”

PwC and ULI liken the common element in many of this year's trends to emphasizing offense—that is, marshaling resources to maximize opportunities—rather than defense, or evaluating risks and protecting against them. “We think the shift from defense to offense become a little more clear” in 2015, Roschelle continues. “Several years ago, we talked about the potential of secondary markets, but investors didn't really latch onto it. Now, it's pretty evident that they're latching onto it.”

That goes a long way toward explaining the appearance of Nashville on this year's roster of Top Ten markets, where the Music City comes in at number seven. It didn't get there overnight, but worked its way gradually up the ladder. Although Dallas, Atlanta, Seattle and Los Angeles all appear in the Top Ten, the list notably leans toward 18-hour cities, which investors are now paying the kind of attention they didn't show in former years.

They're also looking more favorably at suburban markets, written off prematurely in years past. The report notes that in the top 40 metro areas, 84% of all jobs are outside the center-city core. “As prices have risen in the core gateway markets, it is apparent that a fresh look at suburban opportunities is gaining favor,” the report states.

Not only the office sector is seeing change; residential is, as well. “Cohousing solutions, micro housing and other design trends are addressing some of the scarcity and lifestyle issues shaping household preferences,” according to the PwC/ULI report. “One company, for example, is targeting an age segment as young as the late 40s, who may want community amenities like catered meals, happy hours, shared recreation—and who might become the market for more senior-oriented facilities in later decades of life.”

By way of answering the rhetorical question, “We raised the capital; now, what do we do with it?” the report cites the increasing array of options for placing capital, from alternative markets to alternative assets. The term “granularity” is frequently used to describe the process of discovering niche opportunities, according to the PwC/ULI report.

As investors move from a defensive play into offense, Roschelle does sound a note of caution. “We ask market participants to evaluate their prospects for profitability for the industry on a scale of 1 to 5, with 1 being dismal and 5 being excellent,” he says. “Last year, three quarters of the 1,000 respondents said 'good to excellent.' This year, 84% said it. Fifteen percent said 'modestly poor to modestly good.' Ten years ago, it was almost the exact same outcome. You'll remember what happened after 2006.”