Apartments and the International Investor

By Mike Ratliff, Senior Associate Editor

While apartments were relatively unknown as an investment class in the 1980s, risk-return characteristics have proven solid overtime, and now everyone wants a piece of the North American multifamily market. A panel gathered to discuss the current state of international investment in the U.S. and Canadian apartment markets this April at ULI’s Spring Meeting in Vancouver, and it looks like a few interesting trends are emerging in 2014.

Institutional investors are continuing to increase their allocation in apartments in both countries, though the relative levels of multifamily holdings vary significantly. In the United States apartments account for roughly 25 percent of property held by institutions according to LaSalle Investment Management’s NCREIF Property Index (NPI). In Canada, that value sits at 7 percent. This is mainly due to a smaller apartment stock in Canada, where individually owned condos serve the rental market, says William Maher, director of American Strategy at LaSalle Investment Management.

Left to right: William Maher, director of North American strategy, LaSalle Investment Management; Brian Murdy (moderator), national director, Institutional Property Advisors; Andrea Pauls Backman, managing director, Merisow Financial; Greg Pinkalla, COO, Fairfield Residential.

But Canada trumps the international community in investing in U.S. units, dropping about $3.5 billion on American apartments in 2013. The next top investors were Bahrain, Israel and Switzerland, all coming in at roughly $500 million each. The buyers are reflecting the current state of the multifamily cycle in their investment strategy.

“Investors are embracing infill urban,” says Maher. “They are moving away from the traditional garden style apartments that really dominated the market 10 years ago.”

That said, once an institution or fund becomes comfortable with the core markets, they are branching out.

“We are seeing some Asian investors looking at the suburban Sunbelt, albeit on a highly-leveraged basis,” Maher adds. “There is a group that wants yield first, and geography—whether urban or suburban—is secondary.”

Over the last 10 years, the share of foreign investment in U.S. apartments has risen from 2 percent in 2003 to 5 percent in 2013. One of the triggers for an increased investment in apartments is that product has changed. In the early days, the international community was concerned over the longevity of framed construction, which differed from the steel and concrete office buildings they traditionally sought out.

As the percent of high-rise apartment stock in the United States has grown from 10 percent in 1996 to 22 percent in 2013, there is simply a greater number of larger, longer lasting apartment communities available for purchase. Along the same vein, the typical apartment value in the $15 million to $30 million range was just not big enough of a deal to be worthwhile. According to Greg Pinkalla, COO of Fairfield Residential, foreign investors are looking for the big expensive assets, as the table below details.

U.S.: Top 10 Foreign Apartment Purchases in 2013

Source: RCA and LaSalle Investment Management. RCA data understates foreign investment because foreign capital managed by domestic managers is primarily classified as domestic capital. (Click to view a larger chart.)

One of the biggest hurdles in getting more foreign money involved in buying apartments is that the asset class is a foreign concept, says Andrea Pauls Backman, managing director at Mesirow Financial.

“The asset class just doesn’t exist in many countries the way it does in the U.S.,” Pauls Backman says. “It just isn’t as institutional, and is not run by the large operators we have here. Last year I was speaking with Australian investors and had to explain what the asset class is. I was asked that ‘If someone needs an apartment, why don’t they just rent from a condo owner?’ It is just hard for them to imaging how it exists here.”

Brian Murdy, national director at Institutional Property Advisors (and panel moderator), noted that an additional hurdle might be the consulting firms advising foreign buyers.

“Money goes through the Cleveland gatekeepers, the consulting firms, who are currently down on multifamily,” Murdy says. “Yet we think that there is still a strong, sustainable market—that we aren’t in the first or second inning, but rather the sixth inning.”

Greg Pinkalla, COO of Fairfield Residential, pointed out that just because some consulting firms have an opinion, it doesn’t mean investors are necessarily heeding it.

“My opinion is that a lot of foreign investors using the folks in Cleveland, some listen, and some don’t,” Pinkalla says.

He also expects to see an increase in Japanese investment in multifamily. Historically the country was discouraged due to FIRPTA regulations, but that might soon change. Pinkalla believes that FIRPTA reform will be addressed once the future of Freddie and Fannie is sorted out. Additionally, he advises the industry to keep an eye of EB5 projects coming from China and elsewhere.