CRE Valuations: Today & Tomorrow - Where will it land?

Eric Enloe: This is the question that Brandon and I get asked every day. How are we valuing assets? How are we valuing properties when there is not a plethora of trades out there? You can't point to recent transactions of properties. So, we are attacking this by throwing the whole kitchen sink at it. We are trying to do everything we can to get as much knowledge as possible and have as many conversations as possible.  

 

First off, we're talking to multiple parties. That can be owners, investors, brokers, appraisers, lenders, anyone that owns real estate or is involved in real estate. What are their thoughts? What are they seeing? Did they get offers on properties that were not accepted? That offer, even though the seller decided not to take it, is indicative of the market. That's what, hopefully many buyers thought it was worth, even though the seller clearly didn't think so. The answer lies somewhere in the middle. We're trying to triangulate that kind of activity into market feedback. 

 

The other interesting thing is we value assets for lenders, for insurance companies, for portfolios for owners. In many cases, the large investment funds mark their assets every quarter. They have to report to their investors. And in a lot of the open-end funds, you can trade in and out of properties and those funds and if you do that you have to have current values on them. 

 

So, we do a lot of those valuations quarterly, but we don't do all of them, so often we'll do one valuation a year and the in the investment fund will handle the other three quarters. So, what are those investment funds marking their assets for the other three quarters? That's really insightful data that we get.  

 

Third is making sense of sales transactions that don't close. There are properties that have been listed. What we're seeing is a lot of those transactions aren't closing. So, we're really trying to get as wired in as possible to get the offer information. What would the seller have taken? Where did that buyer think pricing was? We’re trying to understand a lot of the guiding principles as we're performing valuations.

 

We wish there were more trades, we love it when there's a lot of velocity in the markets, it's good and it's healthy. But the reality is where interest rates have moved and moved quickly, there's a lot of uncertainty out there in the market in regard to devaluations and lender credit has tightened up as well. It's much harder to obtain debt so. 

 

Brandon Nunnink: I think both Blake and Eric have alluded to how much the market is down year-over-year with respect to transaction volume. Looking at that from an overall basis, transaction volume in the first half of 2023 is down 58-59 percent. It's especially acute in multifamily. The multifamily sector is highly reliant on leverage and that leverage hasn't been as available. There's been somewhat of a pause in the transaction activity there, but also especially acute in the office sector as I think everyone's trying to get their arms around what the tenant demand dynamics look like. 

 

But even property sectors that are performing well like industrial are still experiencing significant volume decline.  Industrial transactions are down 39 percent in first half of 2023, relative to first half of 2022 from a dollar volume transacted perspective. I think that those volume changes will dissipate a little bit and go down. The first half of 2022 was not impacted by interest rate rises yet, whereas the second half was. So, as we start to look at year-over-year numbers comparing the second half of 2022 to the second half of 2023 will be more of an apples-to-apples comparison, I think the market will have experienced some financing turbulence and reticence to accept new interest rates at a higher level. And so, I think the level of volume drop off will start to dissipate throughout the rest of the year. 

 

One of the largest industrial owners in the world, the CEO of Prologis commented, that everyone's upset that the transaction volumes are down right now. But we’re comparing against a benchmark of 2021 and 2022 that in his experience, were the high watermarks of his 40-year career.  And he's saying 2023 would still be a top five market in terms of tenant demand, leasing demand, leasing velocity and the ability to get good asset prices, when they do look to dispose. So, I think a little bit of perspective is certainly healthy when looking at how transaction volumes are down and how pricing may be changing here in the short term. Over the long term, especially on the industrial side, we are comparing against some very high watermarks and on the office side we are looking at a very unique change in demand dynamics over the last three years as a result of COVID and the work from home environment.