Fruitful Tips on CRE Investment
- Jun 17, 2015
New analysis by Stonemont Financial Group forecasts commercial real estate investing to be on an upward trend and investors can expect commercial property to increase an average of 7.6 percent annually through 2017.
“With bond yields at historical lows and the S&P 500 trading north of 18 times earnings (with a corresponding dividend yield below 2 percent), investors are hungry for yield,” Bob McMahon, Stonemont Financial Group’s co-founder, told Commercial Property Executive. “I would say any time is a good time to invest in CRE, provided an investor is getting appropriate risk-adjusted returns.”
In a market environment like today, where valuations have rebounded from the last recession, an investor must be careful and prudent to avoid the issues they faced in 2008. That’s why Stonemont advises investors to acquire assets with reasonable leverage that they are comfortable holding long-term, through multiple real estate cycles.
“In the net-lease world, if you are acquiring an asset with a short remaining lease term (five years or less), you better be comfortable stressing market rents in case your tenant doesn’t renew and you have to find a new tenant in the midst of a down cycle,” McMahon added. “At today’s valuations, an investor needs to look long term. Make sure you are comfortable with the asset through another downturn, so stress your rent and occupancy assumptions to be comfortable that you can refinance any short-term debt you are using to acquire the asset.”
With cap rates compressing significantly for top MSA net-leased assets with high-quality tenants, McMahon cautions investors about buying some of these deals as the cap rate compression has come from demand for single-tenant net-leased assets due to the hunger for yield. Additionally, investing in vacant, “spec” deals can offer high returns but are certainly riskier than going into a deal with a long-term lease to a quality tenant, which is why an exit strategy is very important today. If you are investing in a build-to-suit transaction at today’s cap rate levels, be comfortable holding long term rather than looking for a quick flip at the end of construction.
According to McMahon, Stonemont Financial Group specializes in CRE investments with net leases to creditworthy tenants attached, as well as private student housing investments. These investments can provide double-digit cash-on-cash leveraged returns as well as provide an inflation hedge due to corresponding rent growth.
“In the net lease side of our business, just about everywhere is doing well,” he said. “Tertiary is less of a bad word today as it relates to market location. Many deals in top MSAs with high quality tenants are over-valued, in my opinion, and are trading at levels approaching the mid-2000s, just before the recession.”
That’s why Stonemont Financial Group focuses more on secondary markets with tenants it likes, even if it means financing a more special purpose asset.
“In the student housing side of our business, we’re focusing more on tier II schools (generally 10,000-15,000 students with good enrollment trends) that have had little to no development of purpose-built student housing in this cycle,” McMahon concluded. “Many tier I schools have been overbuilt in this cycle.”