Pensions Play

Retirement funds once again are becoming a force in the multi-housing sector.

Like most commercial real estate investors, pensions laid low in 2009. But there is much evidence that they are coming back to the market this year.

“Pension funds are planning to put out significantly more investment dollars in 2010 than they did in 2009,” explains Jim Woidat, principal at the research firm Kingsley Associates. “Our survey shows that plan sponsors will commit 90 percent more in new capital to real estate in 2010, compared to 2009.”

Large U.S. institutional investors plan to commit $34 billion in capital to real estate for 2010, compared to $18 billion actually invested last year, according to the survey conducted by Kingsley Associates and Institutional Real Estate Inc.

The recent plans of New York-based investment advisor Sentinel Real Estate Corporation reflect the prevailing sentiment among pension and retirement plan sponsors.  For the first time in three years, Sentinel is introducing new core commingled multifamily investment funds, indicates David Weiner, Sentinel’s vice chairman.

“We see significant pent-up demand for apartments that is not being satisfied because of the dearth of jobs,” says Weiner. “It is obvious that if the economy recovers to where job formation is significant, we’ll see substantial demand from young and single households for new apartment rentals, which will, in turn, firm up rents and occupancies.”

Last year, many pensions lost money in their real estate investments. CalPERS (California Public Employees’ Retirement System), for example, reportedly lost $500 million when Stuyvesant Town and Peter Cooper Village in New York City defaulted on its $4.4 billion debt. The California public employees pension system had originally expected that its return on the investment would be 13.5 percent.

Nevertheless, it appears that retirement fund investors are becoming net buyers again. As a percentage, investors’ targeted allocation for commercial real estate is 10.2 percent, the highest level in 14 years of the survey, says Woidat. Kingsley Associates’ survey was conducted in the fourth quarter of 2009, and 73 percent of the institutional investors polled were retirement plan sponsors, both public and private.


Of course, investment returns and fundamentals in the apartment sector are by no means booming just yet. Apartment total returns for institutional investor members of the National Council of Real Estate Investment Fiduciaries still show a negative for apartments, of -1.81 percent, in the fourth quarter 2009, and a small positive of 0.42 percent in the first quarter. These numbers have increased from the low of a -8.39 percent return for the sector in the fourth quarter of 2008.

Rent increases for apartments have continued to decline since March 2009. In February 2010, rent increases were 0.3 percent higher than the year prior, continuing a downward trend, according to data from the National Association of Home Builders (NAHB). And since November 2009, the year-over-year rent increases have lagged the rate of inflation, which was 2.1 percent in February.

Nevertheless, even though fundamentals have not fully recovered, pension investors think the time is right to invest in the multi-housing sector again. “Pension investors expect real estate fundamentals to remain weak in terms of occupancy and rent growth. However, they think that in the near term it is a good opportunity to buy assets at attractive prices,” says Kingsley Associates’ Woidat. “They still expect to take write-downs and to have continued challenges in real estate fundamentals, but they think we are near the bottom of the market.”

Indeed, values appear attractive now. Sentinel’s Weiner notes that cap rates for apartments had increased to between 6.5 and 7 percent, compared to 4 percent during the boom years. “This is an opportunity to buy some quality properties and get significantly more cash return immediately,” he notes.

Institutional investors are also seeing the apartment supply shortfall leading to apartment value increases down the road. Data from NAHB show that seasonally adjusted multifamily starts, which has hovered in the 200,000-plus unit range in recent years, has dropped below 100,000 units in most months since March of 2009, with a few exceptions. In February, seasonably adjusted multifamily starts were down to 58,000 units—the second-lowest level on record, says NAHB.

Long-run demand would support 300,000 to 350,000 new multifamily units per year, according to NAHB economists. For all of 2009, there were about 110,000 starts, and NAHB is forecasting under 100,000 units in 2010, so the market currently may be producing less than one-third of what is needed to meet demand. Additionally, NAHB calculates that just under 400,000 units per year are lost due to obsolescence alone.

The increased interest on the part of pension investors may already be manifested in the market. “They are definitely back in a big way—most of them,” observes Biria St. John, executive director at Cushman & Wakefield. St. John says pension funds and their investment advisors as a group make up about 30 to 40 percent of investors looking for deals in his suburban Boston market.

One pension transaction that is in the works for Cushman & Wakefield’s Boston office is the purchase of a stabilized 285-unit Class A mid-rise apartment community in Malden, Mass., a suburb of Boston, at a cap rate of 5.7 percent. The property was built in the past 10 years, says St. John, and is being purchased by an institutional investor. The transaction received 18 bidders.

Richard Robinson, partner at Apartment Realty Advisors Inc. (ARA), agrees that pensions are active. He says that many advisors working with clients on separate accounts and direct sponsors have begun knocking on the company’s doors for investment opportunities. Some of the large institutional investors are even looking into new development again, Robinson notes.

Pension funds and pension fund joint ventures are now the second-largest group of multi-housing buyers, according to data compiled by ARA. Private buyers of multi-housing are now 58 percent of buyers, followed by pension funds at 17 percent.

According to the Kingsley Associates’ fourth quarter survey, multifamily remains the most attractive asset type for institutional investors, with a rating of 3.44 out of 5.00. (The next most-desirable properties among institutional investors were industrial and research/development properties, with a rating of 3.14.)

Assets sought

Pensions investors are currently focusing on core and safer institutional investments, a profile that multifamily fits well, notes Woidat. Pension funds are also formidable investors, suggests St. John.

“Their cost to capital is very competitive with other investors, and is tough to meet,” St. John says. And Robinson says that pensions now may be seeking larger investments again.

Pensions typically want to put out at least $10 million, and more often want deal sizes of at least $20 million, says Robinson. “Oftentimes the distinguishing feature of pensions may be that they have a lot more money to put out,” says Robinson. “Now, many of them are looking for larger investments because they need to put out more dollars.”

Many retirement plans discovered there were complications in resolving differences among their co-investors when assets in commingled funds ran into difficulties. For this reason, Weiner says, there may be a trend for larger institutional investors to favor separate accounts over commingled funds in the near future. Separate accounts, which provide investors with more control than commingled funds, may have lower yield expectations for the deals in which they invest.

As an example of pension activity, CB Richard Ellis Investors has been busy acquiring properties on behalf of the CB Richard Ellis Strategic Partners U.S. 5, which has raised $2.1 billion from institutional investors in the U.S., Europe and Middle East. Earlier this year, CB Richard Ellis Investors’ Multi-Housing Group purchased the Class A Mass Court, a 371-unit apartment high-rise in Washington, D.C.’s East End, for a reported $105.5 million, on behalf of the fund.

Since October last year, CB Richard Ellis has also acquired other apartment properties in the suburbs of Washington, D.C., Denver and Boston. And it just announced investing in another property in the Boston area that is currently under development.

Sentinel’s Weiner adds that interest from overseas investors in the multifamily sector is very strong. Sentinel has begun marketing a core commingled fund for European investors, expected to raise about $300 million, and is in the process of bringing out another $400 million domestic fund. Additionally, one of Sentinel’s largest pension clients has indicated it wants to invest in the multifamily sector again. “We’ve not seen any significant capital flows into our multifamily programs in the past two years,” says Weiner. “However, we’ve now been asked by one of our larger separate accounts to begin [investing in] multifamily assets for their account.”

Sentinel advises about 60 pension and profit-sharing fund clients and manages about $4.25 billion in assets, 85 percent of which is multifamily. The investment advisor, which manages its own apartment assets, operates in the core space, targeting moderate risk and return. Currently, it is seeking returns of 9 to 10 percent in its core investments, and is looking to invest in properties with up-to-date features at no, or low, leverage, says Weiner, who adds that Sentinel believes that multifamily values are likely to recover sooner than office, industrial or retail properties.

Indeed, as the stock market rises, notes Woidat, pensions may have even more money to invest in real estate, as the same percentage allocation translates into a larger dollar amount.

To comment on this feature, email Keat Foong at [email protected].

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