Over time, private real estate can be a lucrative investment—particularly with the right timing, location, and terms. During significant market downturns, real estate can look even better temporarily. That’s because the true impact is usually unknown for several months. We won’t know the true impact of COVID-19 on private real estate until probably next year.
It is hard to tell how COVID-19 affects private real estate because valuations usually lag public markets by at least a quarter. During the market drop in 2007, many private real estate investments didn’t show distress until the following year. When valuing private real estate, you can’t just look at today’s ask and bid prices as you would for a publicly traded security. The private real estate market is not as efficient as the stock market. Instead, you look at recent transactions for comparable properties. Those transactions reflect closing prices that the parties typically agreed upon several months earlier. If the parties were forced to start over negotiations, they would likely agree on a different price that took into account what’s been happening around them since they first agreed on a price. But they already locked in a price. Unless they agree to forfeit the earnest money, they are tied to that price.
Potential impact on private real estate includes loss of tenants (commercial and residential) because:
Companies go out of business
Companies downsize
Companies realize that they don’t need as much office space because employees can (or prefer to) work from home
Existing lease agreements may prevent some businesses from reducing their office square footage. These long-term leases can further delay the impact of COVID-19 on commercial real estate. As lease agreements mature, we will see if a significant number of businesses will change their approach to office space usage.
As shoppers are less likely to venture into the public, retail properties experience extra pressure. To counter this trend, several property owners consider converting retail space to residential or office usage. Being able to live or work close to restaurants and shopping opportunities could become an attractive offering.
The beauty of private real estate is that even during challenging times, you can still find attractive deals because of market inefficiencies. But those deals are scarce right now. We don’t know what the longer-term impact will be on various real estate investments. This uncertainty makes a new private real estate investment a riskier endeavor for the time being. But eventually, it will also present opportunities. We will continue to keep an eye out for those opportunities. In the meantime, we favor debt positions over equity positions in real estate.