Crowd Street CIO, Ian Formigle, was joined by Nuveen Real Estate, America's CIO and Head of Funds Management, Shawn Lese, and Head of Global Research, Donald Hall, for an insightful conversation about the current state of the commercial real estate (CRE) market.
If you missed the live event, you can now view our webinar replay and learn about:
- Crowd Street and Nuveen's views on CRE's current landscape and outlook
- The macroeconomic environment's effect on CRE, including interest rates and disinflation
- Asset class fundamentals with information on specific geographic markets and supply and demand dynamics
Click here for Crowd Street's latest CRE investing outlook.
So we fast forward to the next slide, just a couple of housekeeping items before we get into the agenda and then we will get right into it. Investments on Crowd Street are offered through Crowd Street Capital, our registered broker dealer. It is important to note that today's presentation is brought to you by Crowd Street, but this is for informational purposes only. Nothing that we say today should be construed as investment advice or a recommendation to make an investment. We're going to talk about things today, some of which might be forward-looking, but these are for informational purposes only and best efforts, kind of what we think type of scenarios. Investing in commercial real estate does entail risk and any investments that are contemplated by investors should be reviewed in consultation with an advisor of their choice.
So with that, let's go ahead and discuss the agenda for today because it is action-packed. We are going to begin with a macro overview from Donald Hawk, who is the global head of research at Noveen. We will then move on into some market fundamentals discussions with Sean Lease, who is Chief Investment Officer of their funds. And then we'll get into some closing remarks. We'll kick things around a little bit in terms of where we see the market today and then we will allow ample time for question and answers from the guests. So with that, Donald, let's go ahead. Yeah, so there we go. There's our speaker lineup for today. So we know why you're here and that is to get right into the research that we are super fortunate to have Noveen share with us today. So with that, I'm gonna kick it over to Donald to kick it off. Thanks, Donald.
Thanks, Ian. Hey, look, I really appreciate you inviting us here today to join in your webinar. I really appreciate the time we spend together sharing ideas, going back and forth, talking about the market. At Noveen Real Estate, I'm lucky to lead a team of researchers globally. We have 12 of us, and we're pulling in data from all kinds of different data sources, right, from about 40 different data sources globally. I'm gonna start real macro because interest rates matter to real estate and because interest rates matter, inflation matters. So let's take a look at this metric. I want to show here how precipitously we're seeing inflation come down around the world.
We had interest rates spike at 11.5% in Europe less than a year and a half ago. At 2.6% today, France and Germany, the April data came in at 2.2%, are seeing significant decreases in this. Sorry, I frogged my throat. Sorry. Thank you very much. So we're seeing significant decreases in inflation. If you think about the US, two-thirds of what's driving inflation today is housing. So it's one-third of the index, but two-thirds of what's driving the data or driving the inflation. On this metric, we see rents are much softer than the official measures. So when you actually put in sort of the private market data series, we see significantly less inflation almost at target.
You flip to the next slide. Apologies again. Hold on. Just need to sneeze. Sorry, a little bit of a disaster today this morning. On the interest rate side, I think what we've seen because we've seen this global precipitous disinflation, central banks have had to do a lot less work. We get real hung up on week-to-week inflation or week-to-week interest rate moves, day-to-day, month-to-month. It's worth taking a step back to recognize we've seen very little movement relatively over the last two years.
So if you went back to 22, within the year, and frankly, within half a year, we saw interest rates in the US go up 236 basis points. Through today, actually, the numbers have come in a little bit since I updated this last week, interest rates have gone up. The US 10-year has gone up 59 basis points over the course of two years. So that's 2023 through today. That's helpful, right? Private real estate values lag a little bit. This has given us some time to frankly catch our breath as an industry so that we can sort of catch up on the value side of things for there to be some sort of sense in the market and sensibility come back. You flip to the next slide.
The one thing I think is kind of wild though, right, is the wide range of dispersion in terms of expectations for the 10-year from now, from here going forward. This shows maybe 50 Wall Street banks' top analysts' expectations for interest rates. What's interesting to me is two things: one, how diverse the expectations are and then two, that not one analyst expects to see interest rates get back to where we were over the last decade. I think this creates some challenges, right? This does create some challenges for real estate bought over the last few years where these folks will be refinancing at higher rates. But on the flip side of that, that does also create some opportunities where maybe those investors need some helpful takeout capital or there may be good acquisitions opportunities on this.
I'm happy to chat more about it if helpful, if any questions come up. The talks around the regional and local banks have been, at least the concerns there have been a little bit overblown in terms of their exposure to real estate, what that means for the market, etc. So we can provide more color on that later, if of interest. You flip to the next slide.
We've seen significant value losses around the world. The US is maybe fourth or fifth on this list, down 16.5% through Q4. Values fell a little bit further in Q1. This is the Naree Odyssey. Well, actually, this isn't Naree Odyssey. This is MSCI. Here we're using this data because it's the one data set that we can get kind of across the world. At this point, the data that we're starting to see in Q1, we're seeing some moderation in value losses within the US. For example, the decline that we saw in Q1 was less than half of what we saw in Q4. It feels like we're getting closer to a turning point. I want to talk a little bit more about that. So if you'll flip to the next slide.
The big picture, I think one reason investors like private real estate in the first place is that you don't experience the same volatility that you do in private market investments. This is why I think one of the many reasons why it's important to put publicly traded REITs and private real estate in sort of two separate buckets. We've seen very many fewer drawdowns over time. And when you have, you tend to see a rebound here a little bit, post the rebound of equities. This is an obviously great correlation here between these, but I think it would suggest, hey, maybe there's a little bit of a rebound here coming for private real estate. So again, to dial down into that a little bit deeper, next slide for me, please.
We're seeing value losses reset at a much more moderate level. So to be clear, everything below the index, we still have seen year-over-year losses, but retail barely. Retail, you're actually almost getting to year-over-year gains probably within the next few months. Apartments, office, still seeing some year-over-year challenges, but flipping in the right direction. It's really CBD office where you're seeing the most significant challenges in terms of values, in terms of occupancies. This is what makes up the bulk of the headlines.
So when you read the financial news and they talk about the challenges within real estate, it centers on office. But most of the investments that groups like us are making these days haven't been in office. So I think what you'll find here is that there's real nuance in the market and you can't just turn away from real estate overall. You've got to look through sector by sector. And even once you get sector by sector, Sean's going to chat a little bit about the fundamentals and show the wide dispersion across markets.
We're finding even within challenged sectors, opportunities when you go market by market, sub-market by sub-market. So there are exciting things to do within each of these. Industrial, you'll see actually just on that chart, we've actually seen year-over-year gains. Now for a few months in a row, it seems that pricing in the transaction market has actually bottomed for industrial, which is an encouraging sign. We'll flip to the next slide as well.
This is showing the same sort of concept except just throwing a line through the middle, a long-term average. Generally, you'll find when you're looking at pricing metrics, so price per square foot or price per unit, that a market doesn't stay too far above that long-term trend or too far below it for that long. That's a pretty unscientific explanation of it, but it's one of about a gazillion variables I like to look at. And when you look at the market this way, you recognize pricing is starting to feel pretty fair.
I'd suggest US office, you've got 20% below long-term trend. That's probably fair. It probably should be below long-term trend. It has some significant headwinds here in the medium term. Apartment, you went from values which were significantly above long-term trend, called 15% or so above long-term trend to now slightly below. And when we're looking at deals and seeing what's coming through an investment committee and through our deal teams, they're starting to feel pretty fairly priced. Retail at fair value here. Industrial, a little bit above long-term trend, but I don't think that suggests to me or that doesn't suggest to me that industrial is overvalued at this point.
When you have, you also have to think through the history. And if you, when you look back at the history of industrial, you had rent growth that was 12-13% per year. We've had 8, 9, 10, 11% rent growth in industrial depending on market over the past few years. So when you're bidding on an asset, you're actually bidding on an asset that current tenants are paying significantly below today's market rent, which would cause you to pay a higher price. So it makes sense that that price per square foot is actually a little bit elevated above that long-term trend. You flip to the next one for me.
Lastly, I want to talk a little bit about investment volume. There has been very little going on anywhere in terms of the transaction market, but that's in terms of deals getting done. I'd suggest that we're starting to see a lot more deals. And Sean, maybe you can provide some color on that as well, but it feels like things are turning around. I'll throw out a couple of different thoughts on that. One being allocations.
So within private wealth investors, most don't have a specific allocation by asset class. Some do. But if they are, if you do, it's not a strict guideline, we're going to an committee to change. Institutions, which make up a lot of the market, so pensions, funds, life insurance companies, et cetera, generally have really strict guidelines about what they're allocating to private real estate, what they're allocating to equities, what they're allocated to private equity to fixed income, et cetera. And so I'll just walk you through some quick math on that. If you took a 60-30-10 portfolio of equities, fixed income, private real estate and you just took the major indices for each, say in 21 Q4 as an institution, you were right at your target of 10% allocation.
Over the next three quarters, all of a sudden, you would have been 370 basis points overweight real estate because through the beginning of 22, the stock market, fixed income, those values fell, private real estate continued to do well for a little while. And all of a sudden you were in a situation where the institutions had to put in redemption requests across the market to get back within their guidelines.
Since then, there's been a role reversal. Equities have been on a tear, private real estate values have been coming down fast. Fast forward today, if you carry forward and just again, the simplified portfolio, that same investor would be 120 basis points underweight to real estate. And anecdotally, I know I'm having a lot more conversations with institutional investors telling me they're now underweight, they're looking at what sectors they want to come back into, starting to think about coming back into the market.
I think that probably means that we see more transaction volumes in the second half of the year and actually raises the floor on values from here. So it's tough to call a specific turning point, but I think things are looking up here in the second half of the year. But Sean, I'd love to hear your thoughts on that as well.
Yeah, absolutely. Well, thanks, Donald. A couple of thoughts on what you just mentioned before we kick it over to Sean on fundamentals. Your comments, I'd say that we're seeing similar effects to the extent that transaction volume is still muted. Although despite that fact, we are starting to see an uptick in the discussion of deal flow, the deals coming to market, right?
Things are starting to begin to break loose and we're starting to see for the example of some portfolios that are out there that they are coming to market right now. So that would suggest to us that in the second half of the year, we begin to see a bit of an uptick in transaction volume, nothing on the horizon that suggests that it's gonna be major or substantive, but it would effectively be an uptick over the currently depressed levels of volume that we're seeing right now.
I also agree with you, Donald, that the institutional capital, its participation or currently lack thereof right now. I mean, it does in our minds create a bit of a stampede effect. And so as private investors, we're looking to try to get ahead of that curve a little bit because once it does come in, my experience suggested that if you look at the last major cycle coming out of the GFC, once institutional capital moved in, in force, it did move the markets fairly quickly and did drive up, it closed the bid-ask spread and started to create some cap rate compression. So right now in the current environment, it does still feel like a higher for longer. We don't exactly know when rate cuts are coming, we think they're still coming perhaps at some point in 24.
When you look at how that's playing out in the market, Green Street will show you that it is literally kicking the can sideways right now in the market, numbers are just kind of flat month over month. So it does feel like the market is kind of just waiting for that next shoe to drop being a change of pivot in the Fed strategy. But it is becoming to be an interesting time where valuations are coming into a level that makes the deal coming in the door actually start to make a lot more sense than it did five or six months ago. So with that, Sean, I'll kick it over to you any other further thoughts and then we'll get into your fundamental conversation of which your dot plot is one of my favorites and I know it's coming up. Thank you.
Well, before we jump into that, let me just add my two cents worth. If we're talking about transaction volumes, because I think the transaction volumes and the dynamics that happen are really kind of like the canary in the coal mine to what's gonna be going on with real estate going forward, right? So when Donald just talked about all of the things relating to interest rates and valuation changes, he's talking about the capital markets dynamics that exist, right? And what we've seen is to summarize, values are down, right. Values are down kind of 20%. And what I'm gonna get to here in a second is talk about the operational fundamentals. And you know, what does that mean? Can we fill up the space? Can we get a tenant to move in? Can we increase rents? Right. And what's the income that's gonna be coming off of those properties? And those are both places where you can make or lose money in real estate.
But while we're on the topic of transaction volumes, you saw in the earlier slide, something like in Q1 $75 billion of transactions happened. That's not a lot, right? You noticed it was like at a really low point in the history of volumes. But the other thing you need to think about is that volume level. So that sounds pretty dire, right? But that volume is something that's reflective of what happened, say three quarters earlier because a seller at that point needs to make a decision to go ahead and sell their property. They need to say, OK, market is what it is. I'm gonna go forward and move forward and sell this property. And then they've got to go out do a full marketing process. Investors are gonna come in, they're gonna do their due diligence, they're gonna come, they're gonna bid, there's gonna be multiple rounds of bidding and then there's gonna be the final negotiation and closing of that. That can take a couple of months, but it can also take several quarters to do from really the beginning part to the end.
One of the first steps that you do when you're selling something is you go to the brokers, right? And you go to one of the big brokers or to local specialists. And you say, hey, Mr. Broker, I would love a broker's opinion of value and we might have an asset. You can see I'm sitting here in 801 Brickell, we just sold this property about six months ago or so. It's a beautiful property and what you need to do is you go to the local specialists who are good at office buildings in Miami and you'd say give me a broker's opinion of value. And so they'll write up a little valuation. They'll give you how we're gonna go market this thing and then select those brokers based on how we feel like they're gonna execute for us. And when we talked to brokers last year, they weren't very busy at all.
When you talk to brokers this year, they're doing a lot more BOVs than they have been in the past. So then that that's sort of a Q1 2024 phenomenon, right? Sort of started off with a very, very active pipeline of deals coming through. And then the second thing I would say is, and by the way, what's that reflective of? That's reflective of there are a lot of people sitting back owning their properties, not in a distressed situation who basically said, I don't need to sell, let me just wait for interest rates to fall a little bit further and let me go hit the market.
That mindset on the seller is changing a little bit. They're basically saying, ok, you know what interest rates are where they are. You saw Donald's like his spaghetti chart that he showed where you had, 20 or 30 different forecast masters of interest rates. And they're all kind of like saying, hey, the next several years, there's not gonna be much movement. It's gonna be sort of 3, 3.5 to 4, 4.5. That's just where the 10-year treasury is gonna be and that's where people are finally saying, ok, we're at this higher level for longer. Let's just accept that as reality and start selling.
So I think we're seeing sellers now willing to step up and actually sell. Donald talked about the fact that institutional investors are definitely coming back to the market. But there's also something like a quarter of a trillion dollars of dry powder waiting on the sides to buy and in order to do that, they're waiting to buy, they're only gonna pay a certain price for it, but the sellers need to come and meet them in the market and the thing that's kind of interesting now is I think we're seeing sellers stepping up and basically saying, let's get into the market.
And so, for example, and this is anecdotal information. I don't have any data because we don't have this aggregated. But this is just like literally anecdotal information kind of hot off the press. We've got three deals, multifamily deals that we've decided to bring to the market in and around the area. We are heard down in Southeast Florida. And what I can tell you is we had tested the markets last year for these kinds of deals and, you know, you'd have five people that would show up and they weren't the highest quality buyers, right?
So there's execution risk associated with that as well. And you know, for any kind of deal when you're bringing a market, you want some demand tension, right? You wanna make sure that everybody is putting their best foot forward and having as sharp of pencils as possible so that they can put the highest bid in. And last year when we would test the market, we actually pulled back a lot of the deals and just said, you know what, now is just not the time to do it. We're not going to accept that kind of pricing. I don't like the dynamics that exist this time around. It's a different story. It feels like the good old days are back for the deals that we brought forward.
And what I mean by that is we're talking about, you know, not five people showing up but 150 people showing up signing NDAs. You know, you still have a lot of those lower quality investors with a lower probability of actually getting to a closing. But we also have, you know, a lot of the really, really, really good ones coming back as well. And so you're talking about, you know, 150 NDAs being signed, you're talking about 40 to 50 tours being given on the properties, you know, over the course of two weeks. So really concentrated in there. You're talking about, you know, 15 to 20 really high quality bids coming in when the first bids are called. And then you're talking about multiple rounds of bidding, right? This is good stuff if you want to talk about having a robust market for real estate. But what it also means is sellers are coming back, but the buyers are there too, right?
And so you've got this sense that I feel a little bit here where people are kind of, you know, the fear is dissipating, right? And then you kind of move getting to the point where FOMO is starting to come into play a little bit. Now, the one dynamic that I'll put into the mix as well, that's pertinent is what is happening with real estate, right? Because we had a very high CPI or above expected CPI reading, right? And then you had the treasury kind of pop that put a little bit of a, let's say a little bumpy road in the narrative I've just described, but you can't look at it just on a week-to-week basis, right? Because like, OK, maybe you bumped up 20 basis points, you know, the 10-year treasury is coming back down another 20 basis points as you saw from what Donald talked about, you know, being only up 59 basis points since the beginning of the year, right? So the point I'm trying to make here is simply we're getting to the point where the transactional market is starting to come back.
And I gave you some anecdotes on the multifamily side. But when we're out there and thinking about either buying or selling industrial properties, we're seeing a similar kind of a dynamic, right? You saw the valuations were actually up for industrial. Believe it or not, retail, which has been lambasted for the past eight years when the great apocalypse started, if you're talking about something like grocery anchored shopping centers, you're actually starting to see cap rate compression in grocery anchored shopping centers because we haven't built any of them. And the demand is pretty strong. OK, we'll come on to that in a second.
But one quick comment, I wanted to jump in because we're getting a couple of comments in the Q&A suggesting that we're being a little optimistic. And so I think from, you know, I want a caveat to suggest that there will still be real pain in real estate. There will be some assets that have significant challenges about refinance, you know, when they come up for refinancing. I think where we are optimistic is because we see those as opportunities, right? As an investor, those are opportunities for us to make a good new investment or to come in in a pref equity position and rescue somebody. So it's not, we're not trying to suggest that in our seemingly optimistic language that there are challenges in the market, we're suggesting that those create some opportunities, I think.
Oh Donald, I completely agree. And if you would note the sectors that I'm talking about, these are the bright lights. So we're talking about multifamily, which has always been of interest, very well located multifamily, right? We're talking about industrial, which everybody still seeks to get increasingly investors are seeking to get exposure to retail. I'm not talking about offices, right? Offices continue to be very, very unsought after let's just put it that way. And the other thing I would say is that you need to look through each of the different real estate sectors. And when I'm talking about transactions, what I would say is this is different than it was last year. This is a marked change in feeling that exists in Q1 and going forward, at least hopefully continuing to go forward compared to what existed last year.
Last year, there was no high-quality process that you could run and it's this process that creates the demand. I'm just here basically saying I'm seeing this now. It's real and you're probably not going to see it manifest itself because a deal that we might have brought at the end of Q1 and that's like going through bidding processes now in Q2 probably isn't going to close until Q3 and that's going to be Q3 or Q4 when you're gonna see transaction volumes actually picked up. And I would also stipulate or comment that as mentioned, the ones that are gonna be highly sought after are gonna be the best assets of the class. And it doesn't mean that there aren't gonna be lots of dogs for which there're still gonna continue to be no bids, right? Whether it's a different sector or a different location.
With that though, maybe let's jump into what we're seeing in the fundamental side. This is the bubble chart, I'm not gonna claim credit for it. This is something Donald created and I think it does a really phenomenal job of trying to summarize what the operational fundamentals are for real estate across different sectors. And what this shows you is that you do need to pick your sectors, right? So if you had taken, for example, just investments in multifamily industrial say over the past three years and compare that to maybe any investments you maybe had in retail and offices over that time, you may have a return experience that could be as wide as 50%, right. So massive differential in performance based on the sectors that you're picking at. And the reason for that is sort of demonstrated here, right?
And what this is basically showing, I'll just take a couple of seconds to describe this. If you take a look at that black line that kind of runs right down the middle at zero, that's sort of the equilibrium point. And what that basically means, that's the long-term average vacancy in any of the given markets that you see listed here, right? So in other words, in the upper left-hand corner, you can see a bubble that represents Detroit that's hanging out at basically about a negative 5.5 in the industrial sector. And so in other words, let's say that the long-term average vacancy rate in Detroit is 8%. Well, that means today, Detroit is hanging out at about vacancy of 3.5% right? And that's a good thing because the lower the vacancy, the more pricing power that the landlord has, the owner of the property has to fill up the property and increase rents because it means with lower vacancy, there's not as much property available for tenants to choose where to come. So they can't play landlords off each other to try and get lower and lower rents.
And so what we continue describing what we see here. So the black line, that's the long-term equilibrium. Each of the individual dots represents one of the top 50 markets for that sector. And so when you look at the left-hand side, you can see industrial, apartments, retail, offices, and those are in real estate, what we call the main four food groups, right? So the reality is that's historically been the four sectors that people want to invest in. The reality is there's a whole another branch of alternatives as we call them or niche sectors. And those are actually becoming increasingly important. And I would even argue more important than the main four food groups, right? These are things like healthcare related, right? So it could be life sciences, medical office building, senior living, memory care. It could be technology related.
So it could be data centers, could be cell towers, right? It could be things like self-storage or single-family rentals or student housing, right? Any kind of different manufactured housing kind of heads-on-beds sort of a strategy, right? But what we've got here just to keep it a littl