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Real Estate

Real estate investors face lower returns, possibly lower fees – LaSalle

The high price of real estate, commercial real estate technology and macroeconomic surprises affecting the world's largest economies are having an impact on real estate's outlook, according to a soon-to-be released midyear report by LaSalle Investment Management.

Those impacts include projected lower returns, but also potentially lower costs for property owners and lower fees for investors.

While real estate will continue to be a good source of steady income for investors' overall portfolios — barring a recession or overbuilding — LaSalle predicts much lower returns.

The current high prices "makes it harder for us going forward to reproduce the numbers we (real estate asset class) just put up," said Jacques Gordon, global head of research and strategy in LaSalle's Chicago office.

"We can't do double-digit returns anymore; we can't do 8% anymore. We probably could produce returns in the 6%-to-7% range. … We can't do 8% (returns) without taking on more risk."

At the same time, the intersection of politics and international trade created a number of macroeconomic "surprises" affecting real estate, noted the report, "Global Outlook at Mid-Year 2018."

There also is building evidence of secular trends and cyclical shifts, including the increasing use of commercial real estate technology — so-called proptech — that LaSalle executives anticipate will permanently change real estate industry.

Proptech involves a large bundle of technological advances to which investors have exposure in their real estate, venture capital and private equity portfolios, including automated property leasing and property sales, as well as more detailed information available to property owners from such sources as public wifi at malls and apartment buildings, the report noted.

"There is a unique tech-y thing going on in real estate. People in real estate are very interested in it and things are moving fast," Mr. Gordon said.

"The word 'proptech' covers a very broad constellation of mainly ... new companies that have come on the scene in the last three or four years, and there are even more coming on every week.," Mr. Gordon said. "The whole proptech landscape is evolving quickly and growing rapidly."

There are a growing number of tools to manage and lease property, he said. Proptech even affects the ways properties are sold. Apartments was one of the real estate sectors to adopt new technologies, including machine learning, which makes running the properties more efficient, but also provides a treasure trove of data for owners, Mr. Gordon said.

Technological advancements in commercial real estate should lower the cost of running properties, he said.

"This should help investment managers to lower fees or provide more service for the same fee," Mr. Gordon said.

Among the macroeconomic surprises so far this year was the tax law, which already has had a positive short-term impact on commercial real estate. However, the long-term impact is another story, he said.

"The macroeconomist in me worries about the long-term effects of the ballooning U.S. fiscal deficit and bills that will need to be paid when tax revenue is so reduced," Mr. Gordon said. "It works as long as the rest of the world wants to lend us the money, and they may not. We, like other industries, would face higher interest rates as federal government debt rises."

The new tariffs and trade war launched this month will not be a positive for commercial real estate, he said.

Tariffs started on Chinese steel and aluminum, which affects owners of factories and warehouses. Prices for steel and aluminum will go up, increasing the cost of construction, he said.

LaSalle executives also anticipate that the G-20 countries, whose economies have pretty much gone up in unison, will be less synchronized, Mr. Gordon said. This means investors searching to invest in international real estate will have to be careful where they invest.

The U.S. has a large enough economy that it will be able to withstand the higher costs of goods from tariffs, but its trading partners, in particular Mexico and Canada, are more vulnerable to a trade war, he said. The United Kingdom also could suffer due to the “Brexit mess,” Mr. Gordon said.

As for the prospect of lower returns, U.S. pension funds might not be happy with returns that are lower than their plans' expected rates of return, Mr. Gordon said. European investors, however, struggling with bonds that are producing very little income, might be happier with the 6% range returns, he said.

Returns are going to be lower in the next five years than they were in the past five years, Mr. Gordon said. "They won't be negative but steady as she goes, … low and steady, somewhere in the 5.5% to 6% range" in 2018 and most likely in 2019 as well.