Like Vikings navigating a river on a foggy morning, privately-held real estate investment firms are being cautious as they journey forward. They’re taking more time to make investment decisions, looking for new channels to raise capital and new vehicles to deploy it.
“We’re navigating with lots of precision and trying to slow down the pace,” said Jonathan Bennett, president of AmTrust RE, a New York-based firm with office, multifamily and mixed-use investments in Chicago, Phoenix and New York, among others. “We’re trying to be thoughtful about the decisions we’re making with our existing portfolio and any decision related to acquisitions.”
The FOMO mentality that pervaded the market in 2021 and 2022 has completely vanished, replaced by the fear of making a mistake. It’s a real concern, according to experts, because today’s higher interest rate environment and economic uncertainty don’t leave much room for error when penciling deals.
Because institutional investors are largely hunkered down and not deploying much capital, a lot of the pressure to move quickly on potential acquisitions has subsided, Bennett noted. Investors have more time to evaluate deals and really dig into opportunities to determine if they’re a good fit.
Though most investors would deny the overheated market of the recent past forced them into conducting less stringent underwriting and due diligence, they would admit that having more time to complete deals allows for additional scrutiny.
A pervasive sentiment similar to deflation currently exists among private real estate investment firms—an expectation that properties will be worth less tomorrow than they are today. That means investors are even more cautious about pursuing deals and aren’t in any rush to nail down a property because there’s little concern about another investor snatching it from them or competitive bidding pushing the price up.
Reasons behind redemption requests
The commercial real estate sector currently is buzzing about redemption requests hitting investment firms. So far, notable private and non-traded REITs Blackstone, Starwood Capital and KKR have limited investor withdrawals. All three made the decision after being hit with waves of redemption requests that surpassed 5.0% of their value.
In March, for example, Blackstone announced investors made $4.5 billion in redemption requests that month. Only 15% of the total requests were granted, totaling $666 million.
Several industry experts pointed out that investors tend to request redemptions when they’re feeling nervous about a sponsor or an investment, not necessarily because they’re strapped for cash. It’s worth noting that Blackstone’s investors sought to withdraw their money after the firm stopped paying out distributions.
However, according to AMTrust RE’s Bennett, smaller firms that continue to pay distributions without interruption likely aren’t experiencing the same kinds of investor demands.
“The net worth of these folks who are investing in these massive funds is very different from the folks who are investing with us,” Bennett noted. “Those investors may need capital for other things in their lives whereas our investors are in it for the long-term—the money they invest is ‘forever money’ and they know now is not the right time to sell.”
New investment strategies
That’s not to say that investment firms are standing still. Many are still moving forward after tweaking their investment strategies to accommodate the current market environment.
Take Palladius Capital Management, for example. The Austin, Texas-based firm anticipated that demand for debt would far exceed the pool of willing lenders, so it launched a debt fund in September 2022. The fund originates, acquires and manages first mortgages, B-notes, mezzanine debt and preferred equity ranging from $2 million to $40 million. It lends across most asset classes, including multifamily, student housing, industrial, hospitality and single-family housing.
When Palladius launched the fund, the firm anticipated that it would take three years to reach its fundraising target of $300 million, according to Marko Velazquez, senior managing director and founding partner. In roughly eight months, it has raised nearly $100 million.
“We pivoted to where we thought the demand would be, and we’ve seen much faster fundraising velocity than we expected,” Velazquez noted, adding that the fund is exclusively invested in by high-net-worth individuals and RIAs investing on behalf of their clients.
“Given where Treasuries are today, there’s a lot of demand from investors when we’re offering debt at 10 to 12% and returns in the 9s. It’s a normal shift in capital flows in high-rate environments. Investors are thinking, ‘Why take a ton of risk on the equity side when I can do debt instead?’”
Velazquez added that Palladius’ debt fund also provides a sneak peek into the future. “It gives us a little bit of a crystal ball because we can see what is panicking sponsors,” he said.
Raising money from new sources
Though many real estate investment firms have always raised capital from individual investors, high-net- worth individuals and family offices, the current investment landscape is compelling these firms to focus even more of their energy on private capital. Of course, raising money is no easy task, especially during uncertain economic periods.
In an effort to more effectively reach individual investors, Palladius has embraced online investing platforms. The firm uses CrowdStreet and RealtyMogul to raise equity for its funds and one-off deals too, according to Velazquez.
Similarly, Glenstar Properties is looking beyond institutional capital to fund its investments, according to co-founder and managing principal Michael Klein. The Chicago-based firm has successfully developed or redeveloped more than $2 billion in commercial space comprising 10 million sq. ft. across the United States.
“We are more focused today on private capital than institutional capital,” Klein said.
He pointed out that institutional investors with open-ended funds have very little capital available because they’re dealing with queues for redemption. Closed-ended funds, meanwhile, are focused on short-term horizons and generally invest when the markets are already on the rebound, which has yet to occur.
“Most private capital will actually look at the underlying fundamentals and have the ability to invest and look beyond the current capital market environment,” Klein noted.
For example, Glenstar, together with its capital partner Creek Lane Capital, plans to break ground in June on Cherokee Commerce Center 85, a 290-acre commercial spec warehouse park in Gaffney, S.C. Glenstar has also partnered with Columnar Holdings to develop 818,434 sq. ft. of industrial space in four buildings at Tri-County 75, a new 72-acre industrial park in Fort Myers, Fla.
“Developers that are able to attract private capital and build during this slowdown should be able to take advantage of the supply and demand imbalance by achieving higher rents over the next few years,” Klein said.
Finding ways to save money
It’s common that during periods of economic uncertainty, companies reduce expenses and look for ways to cut costs. This action is even more critical for real estate investment firms that have relied on low interest rates over the past several years to help them generate revenue and achieve their targeted returns. These firms are not only dealing with economic uncertainty, but also rising interest rates.
“In a rising interest rate environment, we have to be able to find value and cost savings elsewhere,” noted Jeffrey Grant, senior managing director at Roers Companies, a multifamily investment firm based in Twin Cities, Minn.
Grant pointed to a multifamily project currently under development that cost Roers an additional $800,000 in financing costs. With its in-house expertise, it has captured $2 million in savings, allowing the company to pass that on to its investors.
“Because we are vertically-integrated and handle construction and property management internally, we are saving more than enough money in materials and labor costs today to make up for higher interest rates,” Grant said.