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Thoughts
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Ed Gabbitas
EVORA Global has read with interest commentary that commercial real estate strategies offering higher yields, at a higher risk, will likely move first and fastest as the real estate market seeks to deploy built up capital. This trend is being driven by investors demanding higher returns in a challenged market.
When the ‘risk-free’ rate (represented by the yield of a 10-year U.S. Govt Bond) is relatively low, (e.g. 1%to 2%), a typical Core Fund return of 6% to 8% is an attractive risk adjusted return to many investors. However, when the risk-free rate rises, the dynamics change. The risk premium of an asset is the additional return investors expect to earn for taking on additional risk beyond a risk-free investment. When the risk-free rate is 4.5%, the premium for Core real estate investments returning 6% to 8% shrinks to just 1.5% to 3.5%. This smaller premium is considered insufficient to compensate investors for the risks associated with typical real estate investments.
As a result, multiple industry outlooks expect to see a shift away from Core and Core+ strategies, towards higher yielding strategies of Value-Add and Opportunistic funds.
EVORA has extensive experience working with a number of Value-Add funds, providing sustainability advice across capital raising, capital deployment and management, and ultimately in achieving exit goals. A common misconception among many clients is that sustainability, decarbonization and / or ESG are not applicable due to the short hold periods. However, there are multiple instances that back up why Value-Add funds are perfectly positioned to capitalize on sustainability initiatives.
The fundamentals of a Value-Add strategy are to enhance a property’s value by improving its income, decreasing expenses, or both. Four common approaches to achieve this are set out in the download below.
