Commercial real estate investment expert lists sector favourites and trends expected to drive capital allocations
As the ongoing economic uncertainty thrown up by COVID-19 trickles down to the financial markets, diversification has become the watchword for Canadian investors seeking protection for their portfolios. And while many might default to their traditional preference for real estate exposure, they shouldn’t expect every subcategory within the asset class to be a safe bet.
“Overwhelmingly, I’d say the darling continues to be industrial real estate,” said Emeka Mayes, head of Canadian Capital Markets, Brokerage at Colliers Canada, in an interview with Wealth Professional. “That’s where the majority of people, whether in Canada or around the world, are focused on placing their capital.”
Mayes cited the latest edition of an international survey conducted by Colliers’ global capital markets business. Taking answers from many of its investors, the poll found widespread interest in the industrial space, which she predicted would drive down cap rates and positively impact rental rates. Coupled with expectations of continued low vacancy rates, that makes the category very appealing from a value accretion perspective.
Another favourite was multi-family residential properties, a desirable haven for stable investment across major Canadian markets; with record-high levels of inflation projected to remain relatively stable and top out around 4.4% going into next year, that appeal can only solidify. And while rental rates for office spaces were dented during the COVID pandemic, Mayes said that’s mainly been driven by a mass move into the sublease market.
“It's not that tenants are giving back space. It's just that a lot of tenants were trying to limit their expense exposure by putting space temporarily on the market,” she said. “I think now with vaccination rates going up, and many employers mandating at least a partial back-to-work policy in 2022, that sublease market will tighten up, which could accelerate values and interest for office space next year and onwards.”
Grocery-anchored properties were a bright spot in retail, Mayes said, as portfolios within that asset class exhibited strong performance before and during COVID. Coming out of the crisis, retail sales across the board have gone up dramatically in all cities, which has lifted that category further.
Values and interest in power centres have been flat or declining, Mayes said. Investors have also been generally cold toward enclosed malls, she added, except for those that are well-located and have solid potential for redevelopment. By densifying and reclaiming some space within such properties, investors can potentially reap gains that would outweigh the costs of developing the land.
“Because cap rates have compressed and values have increased, people are looking for ways to chase yield,” Mayes said. “There’s a flood of capital going to value-add opportunities where investors can raise rental rates – that includes some multi-families, industrials, and alternative investments – or properly manage expenses so their NOI grows. That’s going to be especially important as they consider construction costs, which have seen 25%-plus increases year-over-year.”
Alternative real estate assets, which are defined by unique operating and business models – including self-storage, data centres, and manufacturing – have traditionally been a mixed bag. But in the current climate of stiff competition for other real estate types, investors have increasingly pivoted towards alternative assets. Institutional investors are proving to be a source of sustainable demand for those assets; driven by a need to put their capital to work, many are developing in-house capabilities to manage those assets.
“In 2019, investments in real estate hit a record of $10.9 billion across all product types in Canada. That activity dropped off dramatically in 2020, particularly in the first six months,” Mayes said. “That picked up in the second half and carried into 2021.”
Learn more about the benefits of REIT in real estate investment.
During 2020 and 2021, she said, institutional players stayed on the sidelines, allowing private investors to swoop in and pick up quality assets they historically couldn’t get their hands on. That was further fuelled by extremely attractive borrowing rates that made for desirable investments from a levered IRR perspective.
But the inability of private investors to write checks beyond $100 million, she said, limited their ability to take portfolio sales down, even though portfolios were being sold at attractive prices. The upshot has been a slowdown in portfolio sales, which Mayes predicts will pick up as institutional investors get back in the market.
“My bet going into 2022 is that there's going to be larger transactions than ever, which would most likely include some portfolio sales,” she said.
