Big Picture—What Could We See in 2016?

Authors: Michael Polentz | Hana Hong

The other shoe finally dropped last month when the Federal Reserve announced the first interest rate hike in seven years. Now in its 37th edition, "Emerging Trends in Real Estate 2016," the highly regarded annual report co-published by PricewaterhouseCoopers and the Urban Land Institute, crunches countless metrics of the U.S. real estate market to conclude that, with some exceptions, the expansionary upcycle of 2015 should continue this year. Below are three of the issues covered in the report that appear likely to have the largest impact on the industry as a whole.

While we may see some changes in 2016 on the domestic front, continued foreign investment in U.S. real estate seems almost certain, predominantly resulting from economic and social instabilities abroad.

Overall Impact of Interest Rate Hikes—TBD

Despite the year-end Fed announcement, the current spirit of the real estate market seems generally positive, or as put by one senior capital markets executive: "We've learned some lessons [about gauging risks] in the not-too-distant past." Industry experts add that the short-term effects of the upcoming interest rate hikes on the real estate market should be negligible. John Williams, San Francisco Fed President, reassured at the Economic Forecast Conference hosted in January that interest rates will rise "gradually" throughout 2016, and that inflation should rise "gently" in line with the Fed's 2% target over the next several years.

Cautious optimism aside, Emerging Trends places "Interest Rates" third in its ranking of important economic/financial issues for real estate in 2016. This suggests that, while many experts may expect cautious increases by the Fed to keep the "general interest rate stability [in] 2016," the as yet undeterminable interest rate hikes will play an important role in 2016's real estate market. How exactly, however, will have to be reevaluated as the Federal Open Market Committee meets throughout 2016 to determine ongoing hikes.

Foreign Investments Will Positively Impact U.S. Real Estate

While we may see some domestic changes in 2016, continued foreign investment in U.S. real estate seems almost assured, influenced heavily by economic and social instabilities abroad. The Association of Foreign Investors in Real Estate (AFIRE), whose membership represents an estimated $2 trillion (+) in global real estate holdings, shows in its 2016 annual survey that 64% of its member-respondents expect to have "modest or major increases in their investment in [U.S.] real estate in 2016," and another 31% expect to "maintain or reinvest their investments." Significantly, none of the AFIRE respondents planned a major decrease for 2016.

Emerging Trends also confirms that the 12-month cross-border real estate investment totaled $31.2 billion through June 2015. AFIRE Chief Executive James A. Fetgatter expounds in the 2016 survey that U.S. real estate continues to be attractive to foreign investors because "there are opportunities across all sectors of the real estate spectrum and in both gateway and secondary cities…[and] with…the best opportunity for capital appreciation, the…[U.S.] is the safest harbor [for foreign investments]."

According to Emerging Trends, U.S. real estate investors anticipate "capital availability in 2016 that is equal to or greater than 2015 levels." For those looking to take advantage of this influx in foreign capital, it would be advisable for domestic real estate professionals to strategically assess which cities and markets are attracting which foreign capital flows, and position themselves accordingly.

Core Markets Still Outpace Secondary and Tertiary Markets—For Now

Finally, Emerging Trends posits several theories for where all that foreign capital and those continued U.S. real estate developments may end up being parked in 2016. Domestic employment gains continue in the U.S., and are expected to propel the urbanization trend forward throughout 2016. Moreover, as their collective disposable incomes grow, the Millennials demographic (80 million-plus in number) continues living, working, and playing in an era where home ownership is declining. Instead, more conscientious, suburban-style living is being combined with the social connectedness and convenience of urban core locations.

Traditional core markets—Boston, Chicago, Los Angeles, New York City, San Francisco and Washington, D.C.—are still outpacing secondary and tertiary markets, as core market opportunities are still in high demand among foreign investors and tap into the synergy of dual employer and workforce supply. However, given the enormous competition in core markets, this trend may stand to change: high demand translates into high pricing, and many investors—domestic and foreign—can be expected in 2016 to look more into emerging tertiary markets for better long-run value investments that are more middle market, and more affordable for investors, employers and the consumers that inhabit them.

Real estate may be cyclical, but early indicators for 2016 suggest that the current growth will continue. Gradual interest rate hikes, continuing inbound foreign investments, growing employment rates and scaling demand of younger demographics will likely sustain investment and development real estate opportunities in 2016—especially for real estate professionals who strategize thoughtfully before they leap this year.