The desirability of American assets is not limited to the practically risk-free obligations of the Treasury. In the shadow of macro developments, core property investment and credit flows are rather robust. Investors’ determination that current prices reflect a discount on long-term cash flow and appreciation has been readily apparent over just the past two weeks. The Wall Street Journal reported last Wednesday that Equity Residential had taken the pole position in bidding for a majority stake in Archstone. The former’s $2.5 bid values Archstone at $4.7 billion—just $61,250 per unit—in a reflection of corporate structure and debt encumbrance issues that weigh on the underlying real estate. On a smaller and more idiosyncratic scale, Equity Group and Hilton’s Waldorf Astoria were reported last week to have acquired Chicago’s Elysian Hotel for approximately $95 million.
Apart from the recent litany of transactions priced above $100 million, a broader range of sales and development activity is supported by commercial mortgage lenders eager to see their resources deployed. At the extreme, Simon Property Group this month offered $1.2 billion in senior unsecured notes. The notes due in 2017 carry a $2.8 percent coupon, less than 200 basis points over the comparably termed 5-year Treasury and barely 80 basis points over the 10-year rate. The secured debt market trends are reflected in several recent originations, including a $360 million, 4.6 percent refinancing by MetLife for the Park Meadows shopping center just outside Dallas. Favorable financing is not the sole purview of the largest assets. The retired debt carried an interest rate of just less than 6 percent. In Cambridge, Mass., Marcone Capital arranged Cambridge Savings Bank’s $16 million financing for the Porter Square Galleria at just 4 percent. At 4.25 percent, JP Morgan Chase provided $6.5 million to refinance a four-building industrial asset in Burbank, in greater Los Angeles.
Property investors and lenders are necessarily assuming a degree of risk in their current activities. These risks relate to the interest rate environment and potential for inflation. While the latter may be internalized by properties with healthy fundamentals, the debt market will struggle to cope with higher interest rates should global or domestic conditions require higher baseline yields on U.S. debt. In the multifamily sector in particular, going-in spreads are no longer wide by historical standards. Apart from these capital and credit market issues, the broader threats to the economic recovery cannot be ruled out as challenges to still-fragile absorption trends. That should be cause for concern among credit risk officers and cycle-minded investment strategists, since an acceleration of fundamentals underpin the renewed tolerance for risk-taking and investors’ increasingly frequent fits of bravado.
Sam Chandan, Ph.D., is president and chief economist of Chandan Economics and an adjunct professor at the Wharton School.