Global economic and political uncertainties.
We would be remiss if we did not point to developments in the United States and abroad that are certain to have an impact on the state of the economy and the investment environment for the foreseeable future, starting with volatility in the energy sector that has prevailed throughout the year thus far. While oil prices have recovered considerable ground in recent months, continued volatility in the sector has injected uncertainty into the market—something investors typically try to avoid. In addition, the recent Brexit vote in the United Kingdom has introduced new uncertainties that will not be fully understood—much less resolved—in the near term. The International Monetary
Fund has downgraded
global growth twice since January as uncertainties blur the outlook. For U.S. markets—real estate in particular—the impact is likely to be largely positive as U.S. assets become more attractive and valuable to global investors. We can probably expect enhanced inbound foreign investment in U.S. real estate markets as the United States becomes even more of a safe haven for investors worldwide.
Steady interest rate environment.
While it seemed fairly certain, at the end of 2015 and the beginning of 2016, that interest rates would begin an upward trajectory, the uncertainties mentioned in number 1, above, have probably dampened the Fed’s enthusiasm for further rate hikes in 2016. The slightest possibility remains that the funds rate could be boosted by perhaps 0.25 percent to 0.50 percent, but both inflation and employment appear to be coming in under the Fed’s expectations. And, with global economic growth lower than expected earlier in the year, the Fed will more likely maintain a wait-and-see position in the short term. We still believe that the Fed is
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more than likely to weigh the effects of each move it
makes before adding any additional friction to current (if unspectacular) economic growth trends. Ten-year Treasury yields have been in flux as early concerns about the effects of Brexit have begun to smooth out. Yields, which had fallen to as low as 1.24 percent in the immediate aftermath of the Brexit vote, have risen back to over 1.5 percent in recent weeks. As concerns about global economic developments ease, we should expect those yields to push back toward a more normalized 1.75 to 2 percent range by year-end. The squeeze on cap-rate spreads remains of some concern for real estate investments should rates rise more rapidly than expected, especially as the “frothiness” we have seen in certain gateway, Class A markets emerges (see our cautionary note from early 2015). At present, little indication exists that a rate increase will push cap rates dramatically higher. Nonetheless, there are indications that yields may begin to drift upward. And, as pricing in first-tier markets stalls and yields hover in the sub–4 percent range in some of the major gateway markets—which are, in some cases, already in peak pricing territory—we should probably expect investors to move more aggressively into secondary and tertiary markets—and to opportunities beyond core assets to core-plus and value-add properties as well as some of the niche property sectors, including medical office, student and senior housing, and data centers.
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