If something makes no sense, can it still have value? Sure, if you’re a psychedelic rock band. Take The Flaming Lips. One of my brother’s favorite songs is an absurd little ditty of theirs, “Yoshimi Battles the Pink Robots, Pt. 2.” It’s catchy, endearing, and the lyrics make absolutely no sense—it’s about a black-belt-wearing, vitamin-eating city girl who protects us from evil-natured robots. Like I said, absurd. (Don’t even bother with Part 1. Trust me.)
But things that don’t make sense have no place in real estate. I can’t help but think of 2006 and 2007, when CMBS lenders were handing out unsustainable loan products based on pro formas that no one in his or her right mind would consider tenable. The terms defied common sense; the rents were unreachable; and yet every investor was convinced that the future would deliver significant returns.
A mere three years later and everyone is asking, “What on earth was I smoking?” (Probably the same thing as the Lips.) The reality is that all of us—consumers, buyers, borrowers, and lenders alike—got caught up in wanting to take part in the banquet of quick returns.
Today, caution has returned. But since the start of 2010, an interesting evolution has happened in the way multifamily deals are made. As the transaction environment began to return—the first and second quarters of the year saw some of the highest trade levels in more than two years, according to New York-based research firm Real Capital Analytics—buyers reentered the fold. In some cases, they were eager to take advantage of an uptick in the availability of distressed assets as well as fantastic rates. In other cases, the overwhelming desire to enter a market reporting a better-than-grim employment outlook along with rising rents (you know, markets like Washington, D.C., and Boston) usurped common sense. I can’t tell you the number of stories executives have told me about “this one time” that their company was interested in a market or property or portfolio only to find that there were so many bidders at the table, there was no way to get a reasonable final sales price and corresponding cap rate.
It’s not quite the same throw-caution-to-the-wind feeding frenzy as it was back in the boom days, but there is one similarity to that period: Some of these decisions still make no sense. Just because an asset sold four years ago at $120K per unit and you got it for $95K per unit today, doesn’t mean it’s actually worth $95K per unit.
So who are these buyers? At the top of the list is Equity Residential, which plans to close more than $1 billion in acquisitions in 2010—they’ve already dropped more than $800 million in the first half of the year. President and CEO David Neithercut was unabashedly direct when talking about the REIT’s hefty year: “All you have to do to be the biggest buyer is be willing to pay the most money.”
And Equity is not alone. Among the list of Top 5 buyers of assets in 2010 (in dollar value), there’s non-traded REIT Behringer Harvard, backed by Dutch pension money, and Chinese-backed The Standard Portfolios, both of which seem to have deep pockets. (For more on these players, check out “Target Buyers” by senior editor Chris Wood. It starts on page 44.)
For the non-Equitys of the world, however, the purchase wars are a losing endeavor. So some are setting their sights on (you’ll never guess) … land. In fact, the multifamily land market, which was nonexistent a year ago, has made a recent comeback as companies such as AvalonBay Communities and Wood Partners start eyeing and buying acres of land. (For more on the land market, see “Betting on Dirt” on page 62 by senior editor Les Shaver.)
Whether or not the deals being made today make sense or have merit will be determined by time. Until then, I prefer to get my dose of absurdity in the form of angelic robot warriors. [M]