Savvy buyers made a fortune after the 2008 crash, picking up real estate at distressed prices. Investors hoping to spot bargains in the latest slump can watch these trends.
4 min
Is the pain over yet for U.S. commercial real estate? The answer might be yes for stocks but no for the assets they own.
A record $205.5 billion of cash is earmarked for investment in U.S. commercial real estate, according to dry-powder data from Preqin. But good deals may not be available for another six to 12 months. Here are some trends investors can watch for signs of when it is the right time to buy.
How Much Are Values Down Already?
U.S. commercial property prices have fallen 16% on average since their peaks in March 2022, according to real-estate research firm Green Street. Unlike the 2008 crisis, when a lack of credit hurt the value of all real estate, today’s downturn has hit some types of properties much harder than others.
Unsurprisingly given remote working, offices are the worst performers, having lost 31% of their value since the Fed first began raising interest rates. The discount isn’t as enticing as it sounds, as troubled buildings need heavy investment to bring them up to a standard that will attract tenants, or to be redeveloped for new uses.
Meanwhile, prospects for snapping up America’s e-commerce warehouses at knockdown prices look slim. Warehouse values are down just 8% from peaks to reflect higher financing costs, and top industrial stocks like Prologis don’t look cheap either, trading close to net asset value.
Apartments might be a better bet for those hunting for distressed assets. Prices for multifamily apartment buildings have fallen by a fifth since March 2022. Some owners who paid top dollar for properties during the pandemic using short-term, floating-rate debt may be forced to sell if mortgage repayments become unmanageable when their interest rate hedges expire.
Property Sellers Are Still Demanding Yesterday’s Prices
Sellers are holding out for prices that are no longer realistic. MSCI’s bid-ask spread reflects the difference between what U.S. property owners are asking for and what buyers are willing to pay.
As of July, the gap for multifamily apartments was 11%, the widest it has been since early 2012, when the property market was still recovering from the 2008 crash. The gap for office and retail is a bit narrower at around 8%. Price expectations are closest for industrial warehouses, where sellers want just 2% more than buyers are willing to pay.
The market will be sluggish until one side caves. In the second quarter of 2023, investment in U.S. commercial real estate was down 64% compared with a year earlier, according to data from CBRE.
As the bid-ask gap narrows, it will signal that valuations are approaching more sustainable levels. But this will take some time. It was five years after the 2008 crash before buyers and sellers saw eye to eye on prices on the hardest-hit assets like apartments—although the adjustment should be much faster this time.
What Could Force Sellers to Slash Prices?
The number of properties that slip into distress will be key for bargain-hunters.
So far, there haven’t been many forced sales. Only 2.8% of all office deals in the U.S. in the second quarter were distressed, according to MSCI.
This may be because loans haven’t matured yet. “Owners don’t want to take a loss but once there are refinancing issues, they will have that come-to-Jesus moment with lenders,” says Jim Costello, chief economist at MSCI Real Assets.
Even if forced sales are still rare, the value of U.S. property in distress—in default or special servicing—is rising. In the second quarter, an additional $8 billion of assets got into distress, bringing the total to $71.8 billion, according to MSCI. Including properties that look at risk, the pool of potentially troubled assets is more than double this amount.
Investment-grade corporate bond yields suggest that property prices have further to fall
Owning commercial property is a bit like owning a corporate bond, only slightly riskier: You bet on the solvency of a tenant, with more uncertainty about the value of the capital you’ll get back. For at least the past 20 years, investors in U.S. real estate have required a return premium of 1.9 percentage points over the yield on investment-grade corporate debt, according to Green Street’s director of research, Cedrik Lachance.
Right now, real estate only offers a 1.3 percentage point premium. For the relationship to return to normal and make property attractive again, U.S. real-estate prices need to fall a further 10% to 15%.
The share prices of listed property companies also point to further falls
Publicly traded real-estate stocks provide a live read of sentiment toward property markets. In the U.S., listed property companies currently trade at a 10% discount to gross asset values, based on Green Street data. This is a good proxy for the size of the price falls that investors still expect in private real-estate values.
Investors can also keep an eye on property stocks for signs of improvement. “Listed real estate is a leading indicator for private in downturns and also recoveries,” says Rich Hill, head of real estate strategy and research at Cohen & Steers, who points out that there are already green shoots. At the end of June, REITs had risen in value for three consecutive quarters and were 13% above their lowest point in the third quarter of last year. Based on how long it usually takes for a recovery to feed through to the private market, property values could hit the bottom within six to 12 months.
All this suggests the best strategy is to buy property stocks but to wait to purchase physical real estate. “If you want to bottom fish in real estate now, do it in the public markets,” says Green Street’s Lachance.
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A student-run real estate investment fund is proving that hands-on experience can deliver real results. Managing $12 million in equity, the undergraduate team recently achieved a 65% gross return on its first property sale, highlighting the growing role of experiential learning in preparing the next generation of real estate professionals.
5 min
On a recent summer Sunday afternoon, Brooks Hiller was hunkered over his laptop at his apartment in Chicago, dialing in to hour three of a marathon series of conference calls on real-estate deals.
The 21-year-old isn’t a professional, and he doesn’t make a dime from this work. He is a rising senior at Indiana University’s Kelley School of Business, where he leads a team of 20 undergraduates who manage about $12 million in equity.
Those students operate their own real-estate investment business, called Sample Gates Management, named for the Gothic-style limestone arches that are the gateway to the Bloomington campus.
Unlike the many student investment clubs that deploy university money or rely on donations, the Indiana group raises funds from third parties and invests in properties across the country, such as apartment developments and industrial parks.
As a high schooler, Hiller was so enamored with the program—by most accounts, the undergraduate-run real-estate investment group that manages the most capital—that he chose to attend Indiana with hopes of being a part of it.
“Students get the experience, the school gets a better education for their students, and the investors are making their money back and get to be a part of the program again,” Hiller said. “I really wanted to be part of that.”
The group’s success is emblematic of changes transforming both higher education and the real-estate industry.
An industry that once revolved around information shared at private clubs or events has become a highly digitized landscape. It’s now flooded with standardized public-market data, so much so that undergraduates can readily peer inside and participate on nearly equal footing.
Meanwhile, colleges in recent decades have championed what is called “experiential learning,” encouraging students to do the hands-on work that will teach them the practical job skills they can’t learn in traditional classroom settings. Plus, dozens of universities now offer real-estate degrees, minors or concentrations for undergraduates.
“At its core, this program wouldn’t have existed 30 years ago,” said Harvard University real-estate professor Avis Devine.
This summer, Sample Gates Management sold its first investment, an industrial warehouse development in Indianapolis. In about 16 months, the fund earned a 65% gross profit on that property.
“That’s a really fantastic return in this environment,” one that would be “good for sort of any professional firm, not just students,” said Tim Morris, a member of the board responsible for approving the students’ investments, who is a founder and co-managing partner of the real-estate firm Proprium Capital Partners.
That property was an “easy yes” investment, Tom Peck, the students’ faculty adviser, recalled. It would diversify the group’s investment portfolio, and a reliable tenant was committed to leasing the building once it was finished, Peck said.
Most of the fund remains tied up in investments, making it difficult to gauge exactly how well it is performing overall.
A decade ago, there were only a few student-managed real-estate funds in the country. Today, there are at least 18, and two more are set to launch this school year, according to Mariya Letdin, a real-estate professor at Florida State University who has researched student-managed investment funds and advises one herself.
And yet, although a program like Sample Gates is an attractive resume line that provides unique experience among undergraduates, it isn’t necessarily a launching pad to help students secure jobs. Because of Wall Street’s summer-internship pipelines and early recruiting timelines, many of the 20 seniors in the group have already secured full-time jobs at global giants before they even touch Sample Gates funds.
In fact, the students’ professional experience—some of them participate in internships all three summers of college—is often a boon for Sample Gates. Students’ stints at institutional shops have left them with a “networking mindset” that “snowballs very quickly into a really, really good Rolodex,” Morris said.
At the Kelley School, where currently 278 students are majoring in real estate, faculty picked only 20 to manage the private-equity fund. The rising seniors were selected from Kelley’s already competitive roughly 60-student commercial real-estate workshop, in which students analyze deals and pitch them to mock committees.
In 2022, for the group’s first round of fundraising, Sample Gates raised $4.2 million from 46 investors, 40% more than their goal of $3 million. Last year’s cohort raised $7.8 million from 74 investors in the second round of fundraising, with one investor forking over $700,000. Some investors put money into both funds.
Many of the investors are Indiana alumni now working in the real-estate industry themselves. They expect the students to return a profit, but they are also enthusiastic about fostering the young program and meeting standout students.
The student managers screen between three and eight deals each week, which could mean they evaluate up to 400 potential investments a year. However, between 2023 and 2025, they selected only 12 investments, ranging in location from Indiana to Arizona.
Once a potential investment passes an initial screening, a team builds financial models and meets with prospective partners to pressure-test the viability of a deal.
For students to move forward with an investment, they must present it to their investment committee, a board of 10 seasoned real-estate executives. The committee has to sign off on all deals, and they reject roughly a third of the ones the undergraduates bring to the table.
And if the students think they can pitch an investment without getting their eyes on the physical property—regardless of where it is located— they would best think again.
Some observers predict that students might be disappointed when they start their full-time jobs because of the shift from doing the highest-level work of managing a fund to being a lowly analyst at a large firm.
“To have all of these skill sets in a short period of time and then to go be an associate for Blackstone would be mentally defeating,” said Rhett Trees, an investor in Sample Gates and Indiana alum who is the chief executive of a Denver-based real-estate private-equity firm.
