Ten (Not So Obvious) Predictions for 2019 in Real Estate

Only foolish people try to predict things.  Well, actually, that is not true.  Smart people make continuous outrageous predictions.  When they are right – which happens by chance to pretty much everyone at some point – they crow about how prescient they have been.  When they are wrong – which usually happens way more than 50% for most predictors – they rely upon either (i) the fact that everyone will forget what they predicted or (ii) a revisionist claim that their prediction wasn’t really a certainty anyway, or what they meant was…..

Anyway, with that predicate, here is what The Real Estate Philosopher predicts for 2019 in real estate:
 
The Choppy World Markets Will be Great for Real Estate:  With wild swings up and down in the market – political uncertainty – the media loving and swirling controversy as much as possible – and fear and greed vying for control – a nice safe cash-flowing asset class will look very attractive.  I predict that cash-flowing real estate will do great.  However, projects with risk will have increasing difficulty attracting debt and equity capital.
 
For the First Time in Years Opportunity Funds Will See…..Opportunities:   Yes, I predict that the really long wait is finally going to be over.  The years of no deals or few deals or just wishing there would be deals is finally going to end.  There will be opportunities at last.  These will be generated by troubled deals that don’t provide sufficient cash flow to be attractive to those fleeing the uncertain markets.
 
Opportunity Zones Will Continue to be Hot:  I have written about this before so I will devote but little space to it here.  I will just reiterate my prediction that capital will flow here eagerly. Indeed, the more the stock and other markets gyrate, the more capital gains will be created, which are tax fodder for these deals.  The tricky spot however will be the fact that opportunity zone deals are by definition “development” deals, and as I noted above there is going to be increased difficulty attracting capital to deals of that ilk.  All of this will require creative structuring (to provide investors the tax upside with as much protection against development downside as possible) and – dare I say – lawyers who understand development, tax, and opportunity zone deals and who are not afraid of intellectual challenges.
 
Opportunity Funds Will Become Big Players in Opportunity Zones:  A second point vis a vis Opportunity Zones is a prediction that Opportunity Funds will become major players in Opportunity Zone deals.  They just don’t realize it yet.   Indeed, we have a perfect structure for this.  I have been talking about it a fair amount but so far I admit no one has actually done it yet.  Any day now…..
 
Auction Funds Will Hit the Real Estate World:  Yes, of course…..hmmmm…..what is an Auction Fund?  Few know right now but I think by year-end this will become a significant force in the real estate fund world.  In a nutshell, it is a creative way to provide liquidity to investors in real estate private equity funds that is backed by NASDAQ and blessed by the SEC.  This concept is just starting out so I would stay tuned here.
 
The Tokenization of Real Estate Will Become a Real Thing:  Right now it sort of sounds like a mixture between millennials and bitcoin, but I think this is going to be a “big thing” over time as it will eventually provide great liquidity to real estate. 
 
If the Bubble Pops it Will be Bad for a lot of Disruptor Wannabees:  Okay, this is hardly a prediction since I start it by hedging with the word “if”.  So I don’t count it – happily I have “ten” other ones so my headline is still accurate.  But I will say that “greed” can turn to “fear” in the blink of an eye.  Once that happens, all that ridiculously plentiful cash seems to vanish with the speed of an egg-timer.  Real estate tech companies with an expiration date vis a vis their burn rates will go belly-up or be bought for a song by bigger players or shrink dramatically.  Real estate players with projects that need more capital than they have will either be seriously distressed or pay for that money at exorbitant rates (see above about Opportunities for Opportunity Funds).
 
Co-Living Will be Ready for its Close-up:  So far it has mostly been all about co-working and co-living has lagged because it is a lot trickier to pull off.  However, I think you will see some major things happening in this space this year.
 
Creative Players Who Are Willing to “Create Value” Will Outperform Those Who Are Not:  This is an old theme of mine but I think it will become more and more obvious that with the continued instantaneous flow of information it will become harder and harder to take advantage of market opportunities that are based on lack of knowledge of others.  Instead, economic outperformance will have to be based on people thinking of ideas and angles to “create” value.   Peter Drucker points out that the “purpose of a business” is to “create customers,” which requires innovation.  It is the same in real estate and this will be more and more critical in a choppy market.  For investors, I urge you to look to invest with parties that have something more creative than just “looking for good deals” and for those who are doing deals, I urge you not to sit by and wait for brokers to call but instead “create” the deals and thereby capture the value yourself.
 
Retail Will Remake Itself but Not in The Way Many Expect:  Everyone is talking about the “experience” of the customer in the store – or the mall – and my sense is a lot of retailers are spending a lot of money on upgrading the customer’s experience.  Sorry, I don’t think that dog hunts that well.  For coffee, yes I love the Starbucks friendly “experience,” but if I am shopping for blue jeans, I can’t imagine how the “experience” will change my shopping habits, except maybe once I might go into a store if I am curious about the fact that they serve me some mint tea while I try on the jeans.  I think what will “work” for retail is the good-old Power Niche.  My prediction is that retailers with something they own – through a brand or a Power Niche – will do great – Amazon and Walmart and mega-players with pricing power from sizing will do great – and parties spending time and money creating an “experience” will be wasting their money. 
 
Choppy Markets Will Bring Out the Best and Worst in All of Us:  Everyone says “my word is my bond” in an up market.  I mean it is pretty easy to be honorable when it just means you are accepting upside.  It is when things go wrong that we will once again learn – or re-learn – who we should be doing business with.  I hope – but not sure I can predict it – that those who showed their honor and integrity during the Global Financial Crisis (now ten years ago) will be rewarded with deals, investments and upside during this go-round.
 

Ten Capital Sources for Opportunity Zones

As an industry leader in Opportunity Zones, D&S has been working with all types of parties that are looking to make investments in Opportunity Zones.  We believe there are not only opportunities for US based investors but for global (yes, global) investors as well. 

This video gives you ten ideas for how to source investment capital for Opportunity Zone transactions.

Opportunity Zones – Ignoring This Major Shift in the Real Estate World is a Big Mistake

I am writing to you about Opportunity Zones.

Apologies if I am outspoken here, but there is a reasonable chance that this is the “biggest thing” to hit the real estate world in perhaps the past thirty or even more years.  The Tax Reform Act of 2017 has made a mega-gift to the real estate world.

My proposition is that whatever you are doing in real estate you need to either:

  • Get involved directly

  • Consider how it will affect you even if you are not involved

Let me take you through my thinking ….

I will start with the first aspect of the “game change” for real estate that hit us in September of 2016 when real estate became a separate asset class.  Instead of being one of various “alternative assets,” real estate is now an asset class on its own.  This means that your average garden variety investment manager is probably advising her clients to put a share of her assets into “real estate” for “diversification purposes.”

This has gradually been unleashing a wall of money to the real estate world over the past two years.  This is evidenced by major players – such as Blackstone and others – raising so-called “permanent capital” vehicles.  And many of our clients are either raising such vehicles or talking about how to achieve permanent capital as an adjunct to their businesses.  In a broad sense, “permanent capital” is generally thought to be capital that likes a current yield but once it gets that yield it is more accepting of a lower overall investment return.  See my article on this from September 2016.

Now all of the sudden the Opportunity Zone initiative has hit us.  For the uninitiated I think of this “Like a 1031 on Steroids” (my phrase).  There is a “good” benefit, a “great” benefit, and an “off-the-charts-benefit” to the real estate world:

  • The “good” benefit is for the investor if it has gains on a sale the investor can effectively “exchange” the gains into an opportunity zone and defer the tax on the gains for up to 8 years and even legitimately avoid some of the gains.

  • The “great” benefit is for the investor that if it invests in an opportunity zone and holds it for ten years then the gain on the investment is tax free

  • This is great stuff, but the “off-the-charts benefit” is to the real estate world in that gains from non-real estate assets can be exchanged into Opportunity Zones.

Taking a step back for a moment, consider how much the stock market has gone up in the past few years and created I am guessing a trillion or so.  All of these are untapped capital gains.  And just about every other asset class has gone up in value too in the past ten years.  The Economic Innovation Group says there are $6T – that is SIX TRILLION DOLLARS — of untapped gains.

What does this mean for us in the real estate world?  Here are my takeaways:

  • For the first time people who have nothing to do with real estate are looking at it.  Sergei Brin who has $50B of Google Stock might, for the first time, think about real estate?  Note I have no relationship with Mr. Brin and I don’t know him – he is purely a metaphor here.  Normally, tech people think that real estate is kind of stodgy and they can make better returns in tech.  But a lot of people in the tech world – and just about every world – are starting to wonder if markets really only go straight up and maybe it is time to diversify – to put some money into things that are stodgy but stable – so that the money might be around for the “next generation” of the family/family office.  It is hard to beat an opportunity zone for this kind of thing due to the tax advantages.  This is already happening as our phones have been ringing off the hook – and I predict it will turn into a stampede. Also, if the non-real-estate markets start to fall, this stampede could gain significant ground.  I mean if you made a million in tech stocks and they drop 20% you might be thinking it is time to take those chips off the table and if you could avoid the tax, well, then, you get my point.

  • If you are a sponsor of course the upside is obvious. If you are capable of putting together deals in an opportunity zone, you should be able to achieve a less expensive and more readily available source of capital. As a side note, I emphasize that I personally am strongly against people putting together deals “because” they are in an opportunity zone – that just encourages foolish deals.  I am sure us old-timers will recall, and never forget, the “see-through” empty building built in the 1980’s – ultimately, a terrible result of tax advantages run amok in the real estate world.  This time, instead of just doing “opportunity zone deals,” I advocate that people should put together what they believe are “good” deals that are in opportunity zones with the tax benefits just being gravy; however, my guess is people will not listen to this advice and instead that unscrupulous, over-aggressive or over-eager, players will raise opportunity zone money just to get the fees and a lot of foolish deals will get done.

  • If you are a fund raiser type, there should – for the first time – be an ability to raise money from parties not in the real estate world who have never looked at real estate that intently.

  • If you are just a rich gal or guy – or have friends who are such – the odds are you have gains and you might at least consider opportunity zone investments.

  • If you are a rich guy or gal in the real estate world, who is not afraid of real estate development investments, it may make sense to talk to your rich friends who are not in the real estate world about teaming up to invest in opportunity zone deals.  They may be less afraid of real estate development investing if they see you putting your money in side by side, perhaps with a promote or other advantage – or maybe not if they are your buddies.

  • If you are an opportunity or investment fund that in your view has nothing at all to do with this since perhaps most of your investors are tax exempt, I think it is a major mistake to ignore this.  This is because this wall of opportunity zone money will likely (i) divert sponsors away from you, (ii) provide competitive and cheaper sources of capital, and (iii) divert investor interest away from your business.  All of these are competitive risks that should be carefully considered.  Perhaps instead of being shoved around by the competition you might raise your own opportunity zone fund?

  • If you are a non-profit out to do some good things – perhaps in blighted areas – this can be a way to achieve your mission without the necessity of actually raising money for it……  Hold on – what did I just say?  You mean you could achieve your mission without the – intensively miserable and annoying and time consuming and expensive – process of raising money?  Yes that is exactly what I just said.  Just get people interested in building whatever is needed in the opportunity zone (perhaps to create jobs, etc.) and get out of the way.  People can feel doubly good – they are doing good and getting a chance to make some money – and even save their taxes.  Too good to be true?

  • Lenders – you may not realize this, but there are some severe timing issues pertaining to how the money has to go into the opportunity zone investment in order to qualify.  A quick note here is that you “cannot” put in equity for an opportunity zone deal and repatriate it back and keep the tax deduction – it doesn’t work that way.  However, you can put in legitimate debt and pay it off with opportunity zone investment money.  This means that lenders that understand opportunity zones – and can be flexible – will become in great demand.  So far no one is really planting a flag to focus on this kind of lending.  If you are lender in this position give me a call!

  • Lawyers, accountants, and other professionals, well, I guess that is obvious.  You really don’t want to answer the phone when your client calls to ask about opportunity zones to ask if that is the place inside ten yard line in a football game…

  • Finally, even if after really thinking about it you don’t think it will have that much effect on your business, you really should know what is going on so at the next cocktail party with your real estate friends you can be the center of attention.

To wrap this up – I have been doing this a long time now – about 35 years since 1983 – to date myself.  I can’t say this is the “biggest” thing I have ever seen – yet – but it might be.

I don’t like to advertise for my firm in The Real Estate Philosopher – so please forgive me – but we are the industry leader in this space right now – both from the tax and the real estate sides.  If you want the skinny on any of this or guidance give me a call.