For private equity real estate managers, opportunities to buy low and sell high are increasingly difficult to come by, with valuations increasing substantially across all markets and competition fiercer than ever.
Real estate "dry powder" — money pledged by investors that has yet to be deployed — rose to a new record of $247 billion at the end of the first quarter, while private real estate fundraising and deal activity showed signs of slowing, research firm Preqin reported.
Global fundraising for private real estate in the first quarter represented the lowest amount of capital raised in a single quarter since the first quarter of 2013, with just 38 funds worth an aggregate $16 billion reaching a final close, initial figures released by Preqin showed. Both the number and aggregate value of real estate deals also fell in comparison to recent periods. In total, 568 deals worth an aggregate $38 billion were completed during the quarter, roughly 33% less than the 853 deals worth $57 billion in the fourth quarter of 2016.
Meanwhile, the number of private real estate funds in the market is mounting. As of the beginning of the second quarter, there were 554 funds seeking an aggregate $189 billion in capital, the highest targeted amount since 2009, Preqin noted in its quarterly update.
"I certainly see the level of competition getting stiffer," said David Blatt, CEO of investment firm CapStack Partners, during an interview with S&P Global Market Intelligence. He noted that some investors who used to invest as limited partners within funds are now competing directly in the market for assets with private equity firms.
However, private equity firms have also been able to attract capital -- including insurance companies, family offices and various foreign capital -- that is comfortable with a longer investment horizon and lower near-term returns compared to the traditional five-year hold with high return thresholds, Blatt said. That gives private equity firms leeway to offer varying structures within their product line.
Head of real estate products at Preqin Andrew Moylan told S&P Global Market Intelligence that the hurdles in finding value have caused some investors to adapt their strategies and look for value in secondary markets both in the U.S. and Europe. Moylan added that Europe is perhaps seeing more interest than the U.S. from institutional investors and global fund managers, citing European interest rate policy as one of the driving factors.
On an asset level, fund managers have shifted their appetite away from traditional assets — office, residential and retail — and toward industrial and niche sectors, such as self-storage, student housing and senior homes, Moylan said.
Despite the challenges in finding value, Moylan maintains a bullish outlook for 2017. According to the research head, most investors are still confident that they can put their capital to work.
"The real estate industry is growing, and the amount of money that it puts out every year is growing, so while that is still happening, dry powder can continue to grow, as long as it is at kind of sustainable levels, which is what it has been in the last few years," he said.