DOMESTIC INVESTORS CONTINUE to be largely out of luck these days.

With more investors scouring the multifamily landscape, and few core assets on the block, those opportunities that do exist inspire a feeding frenzy of bids. As a result, some domestic opportunity funds are beginning to turn away from acquisitions to development, while foreign equity slowly grows more active this year.

Indeed, cross-border investors spent about $300 million on apartment acquisitions in the second quarter, accounting for about 7 percent of all transactions. That's a jump from the first quarter, when foreign firms accounted for 4 percent of all deals, according to New York-based market research firm Real Capital Analytics (RCA).

Despite the uptick in the numbers, the activity seems to flow from only a few sources. About 70 percent of second-quarter foreign investment can be traced to Dutch pension fund PGGM's partnership with Addison, Texas-based Behringer Harvard, as well as Kuwait Finance House's partnership with Highlands Ranch, Colo.-based REIT UDR, according to RCA.

But it's difficult to measure the extent of foreign equity at play: China Investment Corp. and the Canada Pension Plan Investment Board each invested in a $1.75 billion mortgage lending operation run by Hartford, Conn.-based Cornerstone Real Estate Advisors. And Israel-based investment firm Profimex has a significant investment in New York-based Apollo Real Estate Advisors' Opportunity Fund VI.

There may be one large transaction on the horizon. Abu Dhabi Investment Authority (ADIA) was mulling the purchase of an apartment portfolio as of late August. The sovereign wealth fund has grown more active in the country: Last year, ADIA hired real estate veteran Tom Arnold, former managing director of Cerberus Capital Management, to find investment opportunities here.

“Foreign investors are usually interested in large deals, so one or two deals a quarter can really move the dial,” says Dan Fasulo, RCA's managing director. “But sovereign wealth funds don't have to buy anything; they're opportunistic investors. And opportunistic investors in the market want 15 percent returns that just haven't materialized.”

Despite the proliferation of foreign investment, there are still challenges to be faced. For foreign firms, those difficulties come in the form of federal taxes. And domestic investors, fed up by the lack of buying opportunities, are now trying to deploy their equity in new development.


While the opportunities seem to be growing for foreign investors, their business is bogged down by the Foreign Investment in Real Property Tax Act (FIRPTA), a 30-year-old law that heavily taxes foreign investments in U.S. real estate interests.

FIRPTA's intent is to allow the government to tax the gains when a foreign entity sells a real property or shares in real estate companies. But the law's effect has been to block the flow of more foreign capital. “FIRPTA is ridiculous and embarrassing for our country,” Fasulo says. “Over the years, many foreign countries have loosened up the rules of the game to allow for more foreign investment, and we're stuck in the Stone Age.”

A recent bill—the Real Estate Jobs and Investment Act—seeks to ease some of the rules around foreign investment, and was passed by the House of Representatives in the third quarter. The bill basically raised the amount that a foreign organization can invest in REITs from the previous 5 percent to 10 percent, before hitting a “double taxation” threshold.

“Previously, a foreign investor could not own more than 5 percent of a public REIT, or they were subject to FIRPTA on their income and their capital gains,” says Jim Fetgatter, CEO of Washington, D.C.-based Association of Foreign Investors in Real Estate (AFIRE). “So consequently, none of them ever did it.”

The House bill, introduced by Rep. Joseph Crowley (D-N.Y.), was originally much broader in scope, targeting direct investments in real estate as well. But the bill that was passed only addressed investments in REITs. “We're happy with what we could get,” Fetgatter says. “But we would like to see much more.”

AFIRE and other industry groups believe that a similar bill will be introduced and considered in the Senate in the fall.

Turn to Development

Meanwhile, discouraged by the acquisition market, many domestic investors are readjusting their expectations in the second half, shifting away from acquisitions and to new development in high-barrier markets.

While the new development candidates are few and far between—and each deal is put under heavy scrutiny—investors are starting to realize that the yields they initially targeted will likely not be met today. “Six months ago, you couldn't get anyone to talk to you. Now, we are starting to see the stirrings of some equity for new construction—we just closed one deal and are working on another,” says John Fenoglio, a senior vice president at Charlotte, N.C.-based Grandbridge Real Estate Capital. “It appears that the life insurance companies are leading the charge—they've been virtually dormant the last two years, but now they're looking selectively.”

Like many investors, PRP Real Estate Investment Management is frustrated at the pace of the transaction market. The firm raised a $60 million opportunity fund focused on acquisitions about two years ago, looking to leverage it at 75 percent.

“Two years ago, I would've thought we'd be fully invested by now,” says Loren Balsam, managing director and senior investment officer at Washington, D.C.- based PRP. “I thought the environment would be littered with distressed deals—we all thought the movie would look like the early 90s, but unfortunately it turned into a different movie.”

While it's not pulling the trigger on new development, PRP is seeing more of its peers move in that direction. “Investors are saying, ”˜If I can build to a 7 percent or 8 percent [return], maybe it's worth taking the construction lease-up risk if the market is that tight for acquisition,” Balsam says.