Jonathan Lee Discusses Key Takeaways From PCBC 2018

PCBC 2018 wrapped in San Francisco Friday before the July 4th week. Overall sentiment from homebuilders was bullish, while multi-family operators saw market headwinds and existential threats. Some topic overviews and takeaways included 1) economic and market outlook 2) the components of equity today 3) rent control. On the economic front, developers across the board witnessed price appreciation but slower growth on the wage side, which is starting to cap home prices and limit rents. Prices have reached peak affordability in most major MSA’s. Millennials are starting to buy small condos, to the extent they are available, as a hedge against rising rents. Interestingly land development is outpacing all investments right now, and has become the most desired asset class for several funds. From the equity fund perspective, fundraising in the United States is at an all-time high. Available capital for investment, including non-real estate classes, has exceeded $2 Trillion domestically. What real estate fund managers are receiving money to deploy? Those that have an above average track records and favorable fund terms. Number one concern of those fund managers is valuations and deal flow. More is being returned to LP’s because of record levels of available cash but deal flow remains low. Of the equity groups who are actively deploying LP capital, market perception is mixed. According to a recent Prequin survey, 50% of equity fund managers think real estate is at its peak. The main driver of fear is no longer a global recession, but the rise in interest rates and the US domestic political environment. Return expectations have also fallen. Where expectations were a 20% IRR in 2015, today 17% is becoming the new norm. LP Groups are actively seeking Sponsors who have focus and control over subs. Focus should be on one project or a single thesis. If an opportunity doesn’t fit a particular equity group, don’t ask about second and third deal in your pipeline. Sponsors who do this appear not focused and passionate about success. On the flip side, if a first project is a success then some LP’s are funding zero co-invest with a promote for repeat clients. Because labor is not showing up on jobs and thereby delaying projects, LP equity is looking for local expertise and influence over sub-contractors. Delays from labor not showing up on site push down yields, and Sponsors who can mitigate that risk are placed in a premium level. Lastly, new rent control legislation cast a looming shadow over the conference for developers. The California initiatives to repeal CostaHawkins was viewed as an existential threat to the multi-family real estate industry in California, more than mortgage rates, labor costs and entitlement challenges. If successful it will allow rent caps on property in perpetuity which will cap upside for new developments. It is possible the to be named measure went too far as it also puts single family homes under this new ordinance as well. The Achilles Heel could be forcing Mom and Pop owners of a single family home to cap their upside. On July 2, 2018 the ballot initiative gets a name/number and will be on ballot this Fall. Some final random musings: Driverless vehicles are rapidly changing parking for projects, but driverless trucks could displace 6 million workers by 2024. According to a survey completed by 278,000 renters in 44 states, the most important amenities tenants want in their units are: #1 in-unit washer/dryer, #2 dishwasher, #3 cell phone reception. When is the recession going to hit?!?!?! Happy to report that for the third straight year, the PCBC economist stated a recession isn’t expected for another 36 months.