The Best Real Estate Returns Come After Recessions
The current market dislocation in the real estate market will likely generate strong vintage returns in 2023 and 2024, according to Cohen & Steers.
Amid a slow down in the economy, higher financing costs, and mounting fears of a recession, real estate values are fast declining. But the downturn is an opportunity for investors who stick with their real estate holdings — or invest more — during the downturn.
In fact, superior returns in real estate tend to follow recessionary periods, according to the latest report from Cohen & Steers, which has $88 billion in assets, including $56 billion in real estate.
“When you look back, whether it’s on the public or private side, the best returns in real estate follow periods of economic and capital markets disruption,” James Corl, head of private real estate at Cohen & Steers, told II. “It’s just axiomatic that once we pass the point of maximum uncertainty in the markets…you can see some very interesting returns. But the setup for that is going to be painful.”
Real Estate Investment Trusts are already down 17. 4 percent through August as measured by FTSE Nareit All Equity REITs Index, according to the report, called “Recession and the Roadmap for Listed and Private Real Estate.” But the drop is in line with the historical performance of REITs during recessions. Private real estate, which is valued quarterly, hasn’t yet caught up with its public peers. But it will.
“Listed tends to lead private real estate in both selloff and recovery during recessionary periods,” according to the report. “Differences in the real-time pricing of listed REITs and private real estate can create significant short-term dislocations. By understanding the leading and lagging behaviors of private and listed markets, real estate investors may be able to tactically allocate at different times across the two asset classes, seeking to take advantage of how markets have priced in current conditions.”
Investors may have opportunities in private real estate for a number of years. “Against the backdrop of our base case of an average recession, we expect private real estate values to sell off as much as 15 percent,” wrote the authors of the report. “A deep recession, though unlikely in our view, could possibly push prices down as much as 25 percent.”
Cohen & Steers argues that the market is already in a “shallow recession” after a few quarters of negative GDP growth. Investors who can take advantage of the current real estate market dislocation will reap attractive returns in the next two years, according to Corl. “Because of the big reset [in pricing], I think 2023 and 2024…will likely be very strong,” he said.
Real estate will continue to serve as a hedge against inflation. Sectors with shorter lease durations, such as self-storage and hotels, can adjust rents quickly to keep pace with inflation. These sectors demonstrate greater cyclicality and can serve as a buffer against inflation, according to the report.
Technology will also play a key role in determining winners and losers in different real estate sectors. According to Cohen & Steers, cell towers, healthcare facilities, and data centers are “emerging secular winners” as a result of tech innovations over the past few years. Real estate in the Sunbelt and so-called surban areas are also new opportunities as people have moved out of some urban areas into less dense cities and suburbs across the country.
“It’s very difficult to paint the whole real estate market with a broad brush,” Corl said. “Some opportunities and areas are a lot less obvious [investments] than others.”