Investors Target Smaller Rental Portfolios
Trading of apartment portfolios valued at less than $500 million surged dramatically last year, and brokers and investors expect that segment of the market to remain hot for the foreseeable future.
Deals in that price range totaled $15.7 billion in 2018, far exceeding any previous year. Meanwhile, transactions priced above the half-billion mark declined to $5.9 billion. That marked a sharp change from the previous three years, when portfolio trades in each category averaged just under $9 billion, according to Real Estate Alert’s Deal Database.
Market pros say the divergence illustrates a shift in investor demand. Sellers found they could often get better pricing on smaller packages, grouped by geography or investment profile.
“We believe there’s a change in the marketplace where the more manageable or bite-sized pools — the $250 million to $500 million range of regional offerings — are going to have a significant increase in 2019 compared to previous years,” said Brian McAuliffe, president of CBRE’s capital-markets division. “We’re certainly seeing it in our book of business,” he added. “In our discussions with sellers, the strategy is to accommodate the capital sources that are regional in nature” by offering packages that “have a consistent investment strategy.”
Kevin Kaberna, executive director of investment management at Greystar Real Estate of Charleston, S.C., said some sellers looking to dispose of large portfolios opted last year to break them into smaller pieces. “This had less to do with size and more to do with the mix of assets,” he said. “Homogeneous pools tended to price at a premium, or at least at market pricing. Conversely, mixed pools of value-add and core-plus assets, or bi-coastal portfolios, tended to trade at discounts. The trend seems to be continuing in 2019.”
To be sure, there will continue to be large listings and trades. Boston-based Berkshire Residential Investments, for instance, is shopping a national portfolio with an estimated value of $1.1 billion. Dallas-based Lone Star Funds recently sold an East Coast portfolio for nearly $900 million and is under contract to sell another worth about $1.1 billion.
However, several pros said they don’t expect trading activity for large deals to be as robust as it was earlier this decade, while buyers targeting the sub-$500 million range should continue to see healthy deal flow. On the sell-side, dispositions may require more time and broker resources, but have better prospects of meeting or exceeding pricing goals, pros said.
“If you’re trying to get premium pricing, you need to find outlier buyers, and the best chance of finding outlier buyers is to have a bigger bidding pool,” said Matt Ferrari, co-chief investment officer and head of acquisitions and East Coast asset management at TruAmerica Multifamily of Los Angeles. “It’s harder to have a big bidder pool if you’re selling $1 billion-plus worth of real estate.”
Historically, the majority of annual portfolio volume came in deals of less than $500 million. But that flipped in 2015, when sales with higher price tags rocketed to $9.4 billion, more than double the year-earlier figure. Those big deals held the edge again in 2016 before slipping in the past two years.
Meanwhile, smaller deals ticked up in 2017 and then jumped by 71% last year. That surge was driven primarily by transactions in the $250-500 million range, which grew 142% year-over-year.
The Deal Database tracks sales of portfolios that are worth at least $200 million, or in which at least one property is valued at $25 million or more. Last year’s overall tally of $21.7 billion of portfolio sales set an annual record, amid the busiest-ever year for the multi-family sector, which saw total trading volume of $110.2 billion.
The spike in big-deal volume in 2015-2017 came at a time when institutional capital had become particularly keen on the risk-adjusted returns of the multi-family sector, pros said. Large fund operators increased their allocations to the asset class and set out to scale up rapidly.
Among the giant transactions in that period: Starwood Capital’s $5.3 billion purchase of a 23,262-unit national portfolio from Equity Residential of Chicago in January 2016; and Blackstone’s $2 billion acquisition of a 10,399-unit national portfolio from Greystar in December 2015.
Sellers capitalized on large investors’ willingness to pay a premium to buy in bulk. But as big buyers digested their acquisitions, bidding pools thinned and that “portfolio premium” all but vanished in 2018, pros said.
“You could take to market pretty disparate assets and geographies in 2015-2017 and if there was sufficient bulk to the offering the market would be there to pay up,” said Blake Okland, Newmark’s multi-family head. “By 2018 that level of enthusiasm was beginning to thin, and many bulk buyers became more picky.”
Okland added that investors got more discerning about location, asset quality and value-added potential. “Which makes sense, because we started to see rent growth slow, and data points were emerging on portfolios that had been bought and how they were performing relative to expectation,” he said. “Periods of rapid rent growth can make anyone look like a genius, regardless of asset strategy or execution.”
Owners didn’t take long to tweak their disposition strategies, in some cases pulling back on planned mega-listings and chopping them into smaller, more streamlined offerings. San Diego-based Fairfield Residential, for instance, quietly shopped a multi-market portfolio of about 3,000 units last year, but ultimately broke it down and sold the properties in geographic clusters. In 2017, Lone Star sold a 9,677-unit Eastern U.S. portfolio to Harbor Group International of Norfolk, Va., for $1.8 billion and a 8,578-unit Southern U.S. portfolio to Atlanta-based Carroll Organization for $995 million. But in 2018, Lone Star sold five smaller portfolios adding up to $1.3 billion, centered on individual markets, including Chicago and Houston.
There were 99 portfolio transactions of $500 million or less last year, easily topping the previous record of 71, set in 2017. The $15.7 billion total blew past the previous top mark of $10.3 billion in 2014.
Sources said that over the past 18 months, not only have they seen big portfolio packages slim down and become more refined, they’ve also seen sellers take two or three properties and bundle them together as an offering to take advantage of the appetite for mid-size packages.
Still, several large investment managers remain willing and able to complete large transactions. Greystar’s Kaberna said his firm is one of them — when the right portfolio of assets comes along. “I don’t believe it’s the size of large portfolios that is causing folks to back off,” he said. “We’re just not seeing many portfolios which perfectly align with buyers’ strategies. More often than not, they are a mix of vintages, regions and risk profiles.” Meanwhile, he said, “there are a handful of regional groups that are pretty flush with capital and tend to be more aggressive than some of the larger, national groups.”
Morgan Properties of King of Prussia, Pa., recently closed on a deal that fit its sweet spot for apartments in the Mid-Atlantic region. The firm paid $890.5 million to Lone Star for a 4,130-unit portfolio of rental complexes in the Philadelphia and Northern Virginia areas. President Jonathan Morgan acknowledged that big listings might get more scarce in the near term, but said his company plans to chase those deals when they come.
“I think there will still be deals that come to market that are institutional in terms of size, but I don’t think it’ll be the same as 2015, where a lot of funds were coming to an end and needed to exit,” Morgan said. “And so you’re going to see a lot of the [smaller] deals, where we’re going to be a bit more selective about and not as excited. For us, they don’t really move the needle, so we’d rather pursue the larger deals.”