For investors, Vancouver real estate has been a heavenly gift. But now, suddenly, some of the biggest institutional investors, including Canada’s third largest pension fund, are getting cold feet and want out.
Just over the past 12 months, the “benchmark price” soared 27% for apartments and 38% for detached houses! The term “housing bubble” doesn’t even do it justice.
But in July, British Columbia implemented a 15% transfer tax on home purchases involving foreign investors, an effort to put a lid on the price spiral that’s threatening to price an entire generation out of the housing market. By the end of July, the first squiggles appeared, as prices still soared but year over year sales volume plunged nearly 20%.
Preliminary reports for August are now trickling in as anecdotal and incomplete data in a slow summer month, and therefore not necessarily indicative. For example, the Canadian publication, Global News, summarized the August move with plenty of caveats: “Vancouver real estate market is in the midst of a major slowdown, with prices dropping and sales plummeting.”
We will know more when the monthly data emerges.
Similarly powerful dynamics, including the influx of foreign money and a strong local economy, have driven the commercial real estate market. According to the second-quarter report by commercial real estate firm Colliers International, “Vancouver’s FIRE sector” – Finance, Insurance, Real Estate – is hot. Housing construction is hot. Office construction is even hotter, “set to be the fastest-growing sector” in the city, expected to expand by 5% in 2016, with 1.5 million square feet currently under construction. Alas:
The delivery of 2.1 million square feet of new office supply in 2015 has contributed to the office vacancy increasing slightly from 9.8% in Q1 to 10% this quarter.
Citing commercial real estate firm Avison Young, Bloomberg pegs the vacancy rate at 10.4%, “a 12-year high”:
Additional space is set to flood the market, with six office towers under construction for delivery as soon as this year totaling about 802,700 square feet, and 10 buildings proposed for the city….
Despite the vacancy, rental rates for the best quality assets in Vancouver are the highest in Canada and some U.S. cities such as Chicago and L.A. at about $30 a square foot, Avison Young said.
A perfect time to unload: with office rental rates at record levels and optimism still riding high, while a tsunami of new supply is piling on the market and vacancy rates are rising, this would be the definition of a peak.
The Ontario Teachers’ Pension Plan, Canada’s third-biggest pension fund, has $4 billion invested in Vancouver’s white-hot commercial real estate. But it is now trying to unload $2 billion worth of these holdings, “people familiar with the matter” told Bloomberg.
These properties are held by the fund’s real estate unit, Cadillac Fairview:
The Cadillac Fairview portfolio, which hasn’t yet started marketing, includes 14 properties in downtown Vancouver and Richmond, with some of Canada’s largest shopping centers, office towers, and historic buildings up for grabs.
The assets include a portfolio of waterfront properties including Waterfront Centre, a 21-story tower on the harbor built in 1990; the 238,000-square-foot PricewaterhouseCoopers Place; and The Station, a historic property built in 1912 that serves as North America’s largest transport hub, currently pending approval for an added office tower.
Some of the country’s biggest retail assets are also in the mix, such as the Pacific Centre, a downtown retailer with 1.6 million square feet for which Cadillac Fairview submitted a proposal this year to expand. It’s the third-most profitable shopping mall in Canada, according to brokerage Avison Young, with $1,599 in sales per square foot. The center also contains eight office towers of two million square feet, including 701 West Georgia and the HSBC building.
According to “the people familiar with the matter,” the fund has hired CBRE Group and Royal Bank of Canada to work the sale.
Other pension funds have already decided to unload some of their properties in Metro Vancouver, according to Bloomberg, including the Healthcare of Ontario Pension Plan and Ivanhoe Cambridge, which are trying to get about $800 million for their office towers in Burnaby.
What do they see that the market doesn’t see, or doesn’t want to see?
For pension funds, which have to achieve predictable and fat returns, this is a bleak environment, with the Canadian 10-year yield at 1.02%, and the US 10-year yield at 1.56%. Stocks are at dizzying levels, even as corporate profits and sales have declined for nearly two years. If these pension funds want to expand into government bonds and high-grade corporate bonds in Europe and Japan, they’ll make the acquaintance with negative yields.
So why are they selling hot assets with a predictable yield when the investment options for the proceeds are so dismal? Preservation of capital?
A commercial real estate bust can take 40% or more off the top. The last one in the US did. They take years to unfold. When prices go down, real estate markets become illiquid. Trying to sell a property at a survivable price might be impossible. And cutting the price far enough to where liquidity reappears might be devastating to the seller.
The key is to get out while optimism makes these transactions possible and before the market becomes illiquid. Perhaps find a Chinese company, such as Anbang Insurance Group, which already scooped up the Bentall Centre in Vancouver, a 1.5-million-square-foot office complex and shopping mall.
Even as Canada’s debt-fueled economy is bogged down, consumer debt rose to a new record and delinquences are are soaring among Millennials.
