The discussion delves into the state of Canadian real estate transactions, focusing on the impacts of interest rates and capital availability. The participants, senior figures in major Canadian real estate firms, reflect on the lag between interest rate adjustments and the availability of capital, explaining why a surge in transactions hasn't materialized despite expectations. Concerns are raised regarding the bid-ask spread in real estate deals, where even though interest rates have moved, challenges like financing and capital constraints persist, though some improvement is noted.

As the conversation shifts to market specifics, the participants examine the industrial real estate sector, which experienced heightened activity during the pandemic but faces challenges as interest rates affect the economy. They foresee prolonged weakness, with the market possibly reaching an inflection point in 2025, then normalizing with gradual rental rate growth. Moreover, the dialogue explores the intricate dynamics of the Canadian pension funds' strategies concerning real estate investments in light of shifting market conditions and the importance of model adaptation for success.

Main takeaways from the video:

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Key Vocabularies and Common Phrases:

1. inflection point [ɪnˈflɛkʃən pɔɪnt] - (noun) - A moment of dramatic change, especially in a market or trend. - Synonyms: (turning point, tipping point, pivotal point)

We're sort of at a bit of an inflection point.

2. bifurcation [ˌbaɪfərˈkeɪʃən] - (noun) - The division into two branches or parts. - Synonyms: (split, division, separation)

Everyone knows there's a big bifurcation.

3. conviction [kənˈvɪkʃən] - (noun) - A firmly held belief or opinion. - Synonyms: (belief, opinion, persuasion)

I think most of the pension funds still have a conviction to the real estate sector.

4. distributors [dɪˈstrɪbjətərz] - (noun) - Entities responsible for supplying goods to retailers or consumers. - Synonyms: (suppliers, providers, dealers)

A lot of tenants and so would have been like distributors, manufacturers, the three pls.

5. rebound [rɪˈbaʊnd] - (verb / noun) - A recovery from downturn. - Synonyms: (recovery, resurgence, comeback)

It's not a massive rebound, but we are seeing a lot more activity in the market.

6. leverage [ˈlɛv.ər.ɪdʒ] - (noun / verb) - The use of financial resources to increase investment potential, often through borrowed funds. - Synonyms: (uplift, increase, boost)

Investors, I think, will only tolerate a certain amount of leverage when you're a public entity.

7. absorption [əbˈsɔrpʃən] - (noun) - The process of absorbing something, often regarding real estate taken by tenants. - Synonyms: (assimilation, integration, uptake)

You're seeing negative absorption because again, that tenant demand is there.

8. outperformance [aʊtˌpərˈfɔːrməns] - (noun) - An instance of performing better than others in the same category or sector. - Synonyms: (superiority, advantage, betterment)

We also do development both domestically and through partners around the globe where we think we can get outperformance by, you know, by doing a lot of development and you need a lot of boots on the ground and

9. exuberance [ɪgˈzubərəns] - (noun) - The quality of being full of energy and excitement. - Synonyms: (enthusiasm, animation, vigor)

I would also characterize it as over exuberance that happened in 22 and 23.

10. accommodating [əˈkɒməˌdeɪtɪŋ] - (adjective) - Willing to help or assist, often referring to financial agreements. - Synonyms: (helpful, obliging, agreeable)

The banks have been very accommodating and they're not willing to take back the keys.

Canadian Real Estate Firms Share Industry Outlook

I want to welcome all our August chief financial officers to the stage. We're very lucky to have some senior people in such big and important Canadian real estate companies with us. So without further ado, I just want to jump right in, starting with a topic near and dear to Bloomberg's heart, deals transactions. We love reporting on the buying and selling of real estate, and we've been wondering lately, everyone had said when interest rate starts falling, that's when the market will kick up again. But we haven't really seen that yet. So I just want to sort of go around the horn here. I'll start with you, Tamara. What are we waiting for? Why have we not seen the flood of transactions?

Okay, I think, I mean, there's a lag between when interest rates fall and capital availability and then deployment. So, you know, it takes a little bit of time to work its way through the system. The reason we haven't seen as many transactions in the last, you know, call it year to two years is just there, you know, has, as interest rates have increased, there just really hasn't been capital availability. And so, you know, a lot of buyers, you know, maybe interested in acquiring, but they can't find the financing to do so. We recently, so we're always buying and selling and recycling capital. And we were recently closed on a transaction that took us about a year and a half to close, which, you know, in a normal market, it would be about six months. So I just, you know, the buyer had to arrange financing, and then, you know, that took a lot more time than normal. So, I mean, I think that's one reason. There's another reason, I would say, in that, you know, certain sectors are more of attractive than others. So, I mean, there's sectors where people are sellers and then other sectors where people want to buy, so not completely aligned. And then I would say as well, people are trying to keep their powder dry because they think there's going to be distressed opportunities and good opportunities going forward. So they're trying to keep capital available for that as well.

Liz, I'll throw it to you. You hear a lot about bid ask spreads still being too, too wide to get deals done. I mean, now that there has been some movement on rates, is that starting to close? Yeah. So I'll add to what Tamara was saying, too. I think that, like, it's not a massive rebound, but we are seeing a lot more activity in the market. We've most recently, we've managed to sell retail, residential, and an office building. So there is some movement in the market, but just as was said, there's still a price gap, but it seems to be narrowing. So I think some of the buyers, they're still being very hesitant. They want to make sure that they're putting their money in the right places. Also, some capital constraints, like, it does take them a long time to find financing. We've seen the CMBS markets here in the US open up. The unsecured market in Canada is open, but direct lending market isn't quite there yet. And I think, as you know, the price gap is narrowing and cap rates, maybe they've peaked, maybe they've not. I think we're getting there. I do think you'll see more activity.

I just want to follow up with, because some of the transactions that Oxford did quite big, the office towers in Vancouver, this mall in Quebec City, I mean, did that provide a sort of benchmark that you think will allow people use as a reference and start getting deals done? Yeah, sometimes we get. Sometimes the benchmarks aren't like that much. But I think absolutely it's a benchmark. I think what it is showing is people are interested in trading, they're interested in buying, buying real estate. Again, and to your point, with interest rates falling, we're sort of at a bit of an inflection point. And I'm hoping that, you know, 2025 is a big year. One thing to just add to what Liz said, too, is on the, on the capital raising side of things. Like, we've seen unsecured bond issuances go up a lot this year. Like, it's over 30% increase, you know, year over year in Canada and in the US. So that, you know, bodes well, I think, for transaction activity, pick. But that's not the full picture. Like, as the public rate on the stage here, I think, you know, it's been a frustrating two and a half years, frankly, because with the rise in interest rates, I mean, the capitals, you know, there's a huge capital outflow in the REIT sector. And, you know, we've all been trading, you know, well below our net asset values. And basically the equity markets have been closed for a better part of two years, which means, you know, we really can't access the equity piece of the equation and therefore have, like, not transacted like our company itself. We. The last transaction we did was in the spring of 2022.

And, you know, yet even though we've seen, you know, three rate cuts in Canada, you know, yes, we've seen a little bit of rebound in the REIT sector, but still not enough for most of most reits, we're still trading below our nav. And it's just, you know, we're just not going to be issuing equity at those levels. So we, we got to see a little bit more. Hopefully, there will be 50 basis points coming next week. We'll see. But I think that'll help. That'll help certainly with the REIT sector. Get more inflows into the REIT sector, and then hopefully equity prices will be moving up and giving us the ability. Otherwise you're having to recycle capital. And frankly, given some of the bid ask spread that we've seen for the last two years, it just wasn't, you know, we didn't, we weren't going to do that. So if you start looking for financing, are you more likely to go to the debt markets first or equity? Well, I think we're really concerned about our balance sheet. And I think in general, I think even when you look at us relative, like Canada relative to the US, our leverage levels are much higher. And so investors, I think, will only tolerate a certain amount of leverage when you're a public entity. And also, too, I mean, the banks and lending institutions, they were also pulling back on loan to value. So you're only able to borrow so much. Like for us, I think we'll borrow, but we're not gonna damage our balance sheet. We also need to, we wanna control it and have a very conservative balance sheet. So we're just not gonna borrow to transact. So you'd like to wait for the equity market to come? Yeah, we need a balance of equity and a little bit of debt.

Okay, I wanna start with you, Teresa, for the next one. Cause I wanna talk about industrial, and this is obviously an area that you're expert in, because during the pandemic, the industrial real estate market was the hottest thing on the planet, one of the hottest things on the planet. Everyone couldn't own enough warehouses. There weren't enough warehouses for all the e commerce we were doing. And that seems to have sort of turned overnight. And the industrial real estate sector is struggling now. And I'm curious why you think that happened and how long that weakness will persist. Well, I think what happened is you're right. So I think a lot of tenants and so would have been like distributors, manufacturers, the three pls in front of those types of businesses, they did lease a lot of space and they were trying to get ahead of demand just because there was such high demand that they were just trying to get ahead of their business needs. But I mean, with the higher interest rate environment that did slow down the economy. I mean, despite, you know, despite the immigration growth that we understand so well in Canada, I think that they just, they basically took on too much space. And at the same time, because we had seen such great fundamentals in that in the industrial space, that is, cap rates were falling. Market rents were, you know, market rents grew almost 150% to 200%, depending on the market. So it was a great time to build. And so we saw a lot of development, you know, development that we hadn't seen in Canada for decades, frankly. So, you know, you have availability rates moving to below 2% that are now reaching closer to 5%. And so there's been an influx of supply coming onto the market. Demand has slowed down and so, and then we're starting to see now market rents fall. So we've seen market rents fall across all of the big markets, including Toronto.

And you're seeing negative absorption because again, that tenant demand is there. I think tenants, given the increase in market rents, they're also becoming more efficient with their space and use. And also there, they're also dealing with, you know, trying to determine what economic circumstances will occur in the future and not willing to commit to a long term lease at this point in time. So I think all of that, you know, has happened in the last year and a half, I think when is. I don't think we're seeing the worst of it yet. I think availability rates, we still have maybe, I think another 34 million, I think, of supply coming in the next quarter. We'll probably continue to see negative absorption in all of our markets. I think we'll probably hit the worst of it, maybe in Q one. That's my personal view. And then we'll make, see a little bit of inflection, change in point, maybe in the second half of 2025. I think that's as far as timing, that's kind of how we're seeing it. The good thing is, because of the interest rate environment that we've been in, I mean, develop new development starts have completely fallen off. So we've just got to work through the supply. And I personally think that's going to take at least another six to nine months. And so.

Sorry, just on Canada specifically, how long do you think before industrial industrial rental rates, leasing rates start rising again? I think that tension is going to in the second half of 25. Okay, yeah, I'll just add to that too. Like, absolutely, industrial has been the golden child and it's lost a bit of its shine. But I wouldn't say it's really struggling. I think what we're seeing is that tenants cost of capital has gone up for tenants, too. It's taking them a lot longer to actually make the decisions to lease. So we're hoping we're seeing some of that in the sort of. You're saying it takes some time for the absorption to wear off. But overall, I think the vacancy rate across Canada is just over 4%, which is still a very good place to be. And even when you look at all the building, I think in Toronto, 2% of overall, of all the builds, and across Canada, 1.4%. So I completely agree with you. It's just going to take some time to wear off. And as interest rates go down, I think businesses will be more willing to make these decisions because. And we'll see some movement. I think the word ARi is it's not struggling. I think we're heading to a normalization. You know, what we saw in 20 and 21, that's not normal, right? So we got to get back to a normalization, and I think that's where we're heading. But normalization means a gradual growth in rental rates, not 30, 40% a quarter. It's more like we're going to see a steady maybe 3%. That was probably unsustainable looking. I would also characterize it as over exuberance. That happened in 22 and 23, and things just got a little out of hand. We're still.

We have a big portfolio of industrial in Canada, the US, and in Europe. We still believe in the long term. We think, you know, the fundamentals will be sound in the long term. It's just a demand supply imbalance that we're seeing in this in the short term. But, you know, I. You know, even in our portfolio, we're still seeing on our portfolio increases in, you know, in revenue because we were under market in terms of our lease. You know, as Theresa mentioned, rates went up so high, and on our portfolio we're still below market. So we will still see some benefit of that in our portfolio as it rolls off into the new rent.

Okay, we'll put industrial aside for a moment, and I want to turn to pension funds, because obviously pension funds are a big part of the investing landscape in Canada, and we're lucky to have senior figures of the real estate operations who are the biggest pension funds. I've written a lot about pension funds in real estate this year because there seems to be sort of a change going on in how Canadian pension funds relate to real estate and how much they want to own real estate, what they want to own. I'm wondering if you guys could speak to that and how the changing landscape in real estate is affecting how pension funds view it. Let's start with demonic.

Okay, first of all, I guess, first and foremost, I think most of the pension funds still have a conviction to the real estate sector and believe that it's part of the asset allocation mix that they want to see going forward. We haven't seen any change at this point in terms of, you know, that allocation. One of the things we are seeing is a little bit more of an allocation to real estate debt and a little less on the equity side and also an ability to move between those two areas and keep the overall allocation the same because debt has been, you know, performing very well and, you know, this year and last year and expected to next year as well. So, but I think I. So, you know, I think there's a commitment to real estate. One of the things that we found, we've moved more to a direct approach at one time, and the reason quadrille was set up was really to be able to take advantage of direct investment. We've invested in operating platforms, we've developed operating platforms as well. And we think that's a way to outperform in the real estate sector is to really be able to actively manage your real estate a lot. We also do development both domestically and through partners around the globe where we think we can get outperformance by, you know, by doing a lot of development and you need a lot of boots on the ground and. Right. I think now we're over 2000 people. So it's a fairly intensive, operating, intensive sector. And I think we, you know, over the last number of decades, we've seen real estate perform well just because interest rates have fallen and cap rates have fallen. We think now we're in a different place and it's really going to be about operating your assets and really asset managing.

We, you know, we believe strongly that we need a model. It gives us that kind of operating flexibility and independence while still having, you know, the proper governance in place and, you know, and oversight in terms of, you know, strategy and also capital plans, but really allowing us to operate the real estate as we need to. It's an interesting point you raised that I want to throw over you, Liz, that for much of the history of the Canadian pension fund's sort of famous foray into real estate, where they saw incredible success, became famous around the world for their direct real estate investing. It was an era of steadily falling interest rates, that era may be over. Interest rates may be going, they may at least stay elevated. Foreseeable future. How does that change the game for a pension fund real estate investor? That's fair.

I think on the first point, I think we've watched over time, some of our peers, they have moved away from the direct investment model and they've sort of moved to an investor, I guess, model, you would say. And I think what you're seeing, as Tamara said, I think people are keeping roughly the allocations to real estate the same. So I wouldn't say that interest rates are making them change. I think they're just changing in a lot of ways how they're managing the real estate and maybe adding more to credit. Even us, we've added more to real estate credit than we had before. So I don't think it's a sentiment that real estate is, you know, interest rates have sort of hurt real estate permanently. I think, to be honest, teams are thinking like 2025 is a good vintage. We talked about sort of being at the top of the cap rates. So we're looking forward to the moving down. And I think everyone understands that real estate is cyclical and we're at a tough time, but, you know, the next five years should be good.

Okay. One thing I wanted to add, just made me think about it, is just also raising third party capital. You kind of need this model like we've got. And like I think Oxford has as well. We, you know, we have a joint venture with RBC where we, we're their asset manager for real estate. And having the model that we have with the oversight and governance that we have allows us to raise third party capital and allows us to take advantage of opportunities and work with other people. Fee generating business as well. Yeah, it's a fee generating business as well. And one of the things, by creating Quadrille, we pay dividends to our shareholders, the pension funds, basically. So we've created a, a very valuable real estate asset manager that they own and they get the benefit of. So rather than paying, you know, fees to third parties, you know, they're, they're, it's creating a company that's, that's valuable and they're not, you know, net net, because they get the income from us, they're paying a lot lower fees. Interesting.

I want to turn then some point that has been raised a few times of 2025 is a good vintage for real estate, that there might be opportunities coming up. You know, the idea of distress. We've been talking about it seems like nonstop the last two or three years. Any minute now, there'd be this wave of distress. Dirt cheap assets coming available on the market. Teresa, what are your thoughts on that? Is there. Are we on the verge, I mean, capital dependent, if you can raise equity, are we on the verge of a buying opportunity? You know what? I'm going to let the ladies speak to the office, because obviously I wouldn't do it justice. But I think, like, certainly in the industrial space, we haven't, you know, I think we thought we would see a lot more distress, and we just haven't seen it. We haven't seen it in industrial space.

We haven't seen it. I mean, we still, you know, the few transactions that we've seen last couple of years in Toronto, for example, you know, assets are still selling over, like, dollar 325 a square foot. I mean, it was maybe 350 during the pandemic, so we really haven't seen that much, you know, price adjustment, interestingly enough. And we're still seeing private, private players buy assets well below cap rates on the hope that they'll stabilize to some level. They're buying it at 3%, thinking they're going to stabilize to five, and so willing to take on that negative leverage, for instance. So we haven't seen the distress. My personal view is anyone who's maybe been in a little bit of stress has been able to negotiate with their lenders. The banks have been very accommodating, and they're not willing to take back the keys, unlike some, you see a lot more of that, obviously, in the US because of the non recourse lending environment here.

But in Canada, the banks, they don't want to take over the assets. So they've been very accommodating, or there's been just private capital that's been able to step in if there's been a distressful situation. So I know for ourselves we haven't seen the deals and we haven't been able to really transact on anything that we would deem would be a good value. And so we've been kind of quiet on that front. So I think it's really been a unique environment. And not just in Canada, but, I mean, Canada is a little bit, I think, stronger relative to, like, other markets like the US. As far as distress, I just. We just haven't seen it. Okay, so no deals in industrial.

Yeah, no deals. Liz, where were you going to turn to me for office? No, I think we also haven't really seen it either, because we really focus on class a and trophy office space. And everyone knows there's a big bifurcation. And so we haven't seen huge price reductions in those two class A or trophy to actually be interested in. And in some cases, where we've seen, in a lot of cases, people have bought buildings in partnership and we've seen in quite a few cases where if one partner is in distress, the other partner has sort of bought into the building or otherwise. So it's important to have the right partners at the right time. But we really, on the office side, haven't seen huge deals in what we're interested in Canada. So if not office, where.

Where are there the opportunities that make 2025 a good vintage? I would say in, I think cap rates have gone down. It's just not distressed, I guess. Sorry. The cap rates are at the right level. Not gone down, but they're at the right level where we would be interested in buying in, but not at distressed sort of rates. These are office assets or. What kind of assets? Probably residential office. Not as shiny a child as some of the other office costs, but certainly our investment teams, you know, with the central bank sort of signaling rates going down, we were on our back foot, but now I think we're definitely on the front foot, sort of looking for the opportunities. But I would say more likely everyone's looking at it now, but more likely on the residential side because compared to our peers, we are underweight residential. So that's probably one area that we'd be interested in and also maybe even some retail.

Interesting tomorrow. Yeah, I mean, I think one of the things. I mean, we've seen a fair amount of capital raising in the fund sector. I mean, that's one of the reasons I don't think there's going to be the amount of distress that people were hoping for because, you know, there is liquidity and there is capital that's being, you know, raised and ready to deploy. So, yeah, I don't think there will be the distress. There still could be some buying opportunities, but I don't think it'll be at distressed levels. Ok. So, I mean, if Liz is seeing these not distressed, but buying opportunities in Resi and retail is interesting. Are you seeing something similar? Where are you looking? Yeah, I mean, we're looking in.

I mean, residential for sure, and we're still very committed to industrial, but we're looking at a lot of alternatives as well. Things like data centers, self storage, cold storage, those types of things. Even areas like student housing is an area that we're committed to and continue to see opportunities. And then one area that we're focused on is manufactured housing. We see with the issues around affordable housing, we see that as a sector that we think is going to grow. You know, we're a big owner of a port. We own a large portfolio in Canada. We're looking at investing in similar portfolios in the US. We think it's a growing area, you know, and it really has, it's very, it's a very fragmented business, and, you know, a lot of mom and pop owners. And so we, you know, we think there are opportunities there.

Okay. So as soon as rates fall low enough and maybe the equity valuations or REITs get back, buying spree ensues. We have only 30 seconds, so I'll just wrap up.

Real Estate, Finance, Economics, Interest Rates, Capital Markets, Industrial Real Estate, Bloomberg Live