Investors Optimistic About Tax Reform, Wary of Interest Rates

The latest NREI/Marcus & Millichap Investors Sentiment Survey found enough uncertainty among CRE owners to push the index level back to where it was a year ago.
John Chang, FVP Research Services, Marcus & Millichap
John Chang, FVP Research Services, Marcus & Millichap

The Second-Half 2018 Commercial Real Estate Investment Outlook from Marcus & Millichap and the latest NREI/Marcus & Millichap Investor Sentiment Survey shows there is some decrease in optimism about the effects of the Tax Cuts & Jobs Act on the industry. However, a majority of respondents still hold positive views on the tax reform.

Investor sentiment increased in the first half of 2018, but the latest survey found enough uncertainty among CRE investors to push the second-half index level back to 150, the same index level as the second half of 2017.

“There are a lot of very positive things for real estate investors in the new tax reform, but I think people are still coming to terms with what it means to them,” John Chang, senior vice president of research services at Marcus & Millichap, said in the outlook report. “Investors are still getting their arms around the new tax law, so it’s a little too early to anticipate a lot of change resulting from tax reform.”

The survey found 57 percent of respondents think the economy will grow faster as a result of the new tax law, compared to 68 percent in the earlier part of the year. Sixty percent of respondents said they consider tax reform favorable for commercial real estate compared to 71 percent in the first-half survey. While the current survey shows some of the optimism expressed earlier in the year has been scaled back, 52 percent of respondents expect the new tax law to increase investment capital flow and 46 percent think the tax reform will lead to increased property values. The respondents expect the industrial and multifamily sectors will see the greatest benefit from tax reform—48 percent and 46 percent, respectively.

The good news is that even though the Investor Sentiment Index is averaging 156 for the year—below 2012 to 2015 levels that reached into the 170s—it is still considered a strong number and is above the pre-recession record of 148, set in 2005. “Not only is confidence still strong, but overall activity is very much ahead of where we were 10 to 15 years ago,” Chang stated in the report.

The survey found 59 percent of the respondents plan to increase their investments over the next 12 months, compared to 67 percent in the first half of 2018. That sentiment, while down from earlier in the year, is also similar to the second half of 2017.

There are differences in investment plans among the property types with 32 percent of retail investors saying it’s a better time to sell, while 47 percent of industrial owners saying it’s a better time to buy. Additionally, 38 percent of mixed-use, 33 percent of undeveloped land and 25 percent of apartment investors also believe it’s a better time to buy. The hotel and office investors appear to be in a wait-and-see mode, with 52 percent of hotel investors and 54 percent of office investors saying they are in a holding pattern. Half of the apartment, mixed-use and retail investors say they are also holding steady for now.

“When you look at the different property types, there is a little softening in sentiment. The outlook remains positive, but the level of enthusiasm has eased back since the beginning of the year,” Al Pontius, senior vice president, national specialty division director at Marcus & Millichap, said in the report. “In some ways, this is reflective of the late cycle and investors being a bit more cautious. After having ridden the growth for several years, they are generally happy with where they are and feel good about the outlook ahead.”

Top industry concerns

Rising interest rates (67 percent) topped the list of concerns by CRE investors. Sixty-three percent of respondents cited Fed action as the main factor behind higher interest rates while 47 percent also pointed to possible inflation.

The other top industry concerns reported by survey respondents were:

  • Unforeseen shocks to the economy – 48 percent
  • Rising operating expenses – 44 percent
  • Overdevelopment – 34 percent
  • Global economic issues – 31 percent

“As long as interest rate movement is controlled, and the pace is gradual, investors should be in good shape, because the market has time to adapt,” David Shillington, president of Marcus & Millichap Capital Corp., said in the report. “What we would prefer not to see is a very rapid movement in interest rates, which causes people to slow things down in order to re-underwrite transactions and potentially reposition their portfolios.”

Property types breakdown

Investors still favor industrial and have the most confidence that property values will increase over the next 12 months. The survey found 69 percent of industrial investors expect higher property values, while 62 percent of apartment investors and 49 percent of hotel investors say the same thing. Retail investors had lower expectations, with 28 percent predicting property values in their sector to rise over the next year. Meanwhile, 48 percent of mixed-use investors and 35 percent of office owners expect property value increases.

Only small percentages of investors reported expectations of property value decreases over the next 12 months, with 28 percent of retail, 20 percent of office, 13 percent of hotel, 10 percent of mixed-use investors, 7 percent of apartment investors and 4 percent of industrial respondents expressing this sentiment.

While the survey found some signs of cautiousness on the part of the investors who participated, Chang said the respondents pointed to good job growth numbers for their overall optimism about the economy and property performance. The survey found 93 percent of respondents believe job growth will be similar or better this year than 2017, and 79 percent expect job growth in 2019 to be the same or better than 2017.

Image courtesy of Marcus & Millichap