The era of Stupid German Money is long over says Rafael Aregger, head of investments USA, Empira Group.

The behaviour of foreign institutional investors in the US real estate market is no longer comparable to the time leading up to the subprime crisis. There is now much more differentiation by state and region as well as asset and risk classes. Instead of office or retail properties, the focus is now on rented residential units, in particular multifamily properties. In addition to buying existing properties, now is the time to consider residential project developments to enhance long-term-oriented portfolios.

Real estate investments in America: Many investors dream of owning or having a stake in prestigious landmark properties in coastal cities - skyscrapers in Manhattan, shopping malls in Los Angeles or apartment buildings overlooking San Francisco Bay. However, these expensive assets have one shortcoming: they often do not generate outstanding returns. That is why - similar to Germany and elsewhere - a threefold rethinking is also taking place in terms of US investments: Firstly, a move away from the megacities and a greater focus on secondary, and even tertiary markets, in southern states, secondly, a move towards residential assets and thirdly, a move towards new construction instead of acquisitions of existing portfolios.

Sun Belt moves into focus as growth region

In the past, the supposedly strongest locations in the USA, such as New York City, San Francisco and Silicon Valley, Boston or Los Angeles, were the most popular with institutional investors with long-term investment horizons. But now these very investors are reacting to the shifts in the economy and population within America. They are increasingly turning their backs on the cities in the traditional gateway markets of the Pacific coast and New England and shifting their attention to the burgeoning business location of the Sun Belt region. States such as Texas, Florida and Arizona are showing double-digit percentage growth in residents, new businesses, jobs and patents, which are just some of the factors making the Sun Belt region ripe for investment.

A high quality of life with a significantly lower cost of living, a strong jobs market, a very low tax burden and, finally, the pleasant climate attracts hundreds of thousands of mostly young and qualified Americans (and immigrants) to cities like Austin, Miami or Phoenix. These cities are also increasingly becoming the new home of corporate headquarters, research and administrative centres. Start-ups as well as industry titans such as Tesla, Apple or Hewlett Packard are moving to the Sunbelt due to the business-friendly environment, less regulation and lower costs of living/conducting business.

America's youth discovers rental housing

At the same time, the nature of US housing has been changing for several years. While approximately 70 percent of the population were homeowners before the housing crisis in 2008, this figure dropped to 63 percent by 2016, according to the U.S. Census Bureau. During Covid, this figure slightly increased, so that by 2021 approximately 65 percent were homeowners. Still, the long-term trend remains unbroken: The U.S. is increasingly tilting towards rental living, especially among younger Americans, but it is also a growing trend amongst older Americans.

Young Americans appreciate the increased flexibility that renting offers. Excellent services and facilities in multifamily complexes also attract tenants who value communal areas, fitness rooms or pools on their doorstep. Thus, many people are not renting out of necessity, but out of convenience - at correspondingly higher rents. This brings an asset class into the focus of institutional investors that did not receive much attention even a few decades ago: multifamily. Today, this segment is the largest real estate transaction market in the world.

Exploiting the discrepancy between supply and demand

Migration to the Sun Belt is creating high demand for rental housing in the region - with local supply being severely limited. The multifamily properties mentioned above enjoy particularly high demand due to their high quality and included amenities. Institutional investors have recognised this discrepancy between supply and demand and adapted their strategies accordingly. Naturally, this also has an impact on the price of acquiring such assets. Adequate returns are increasingly difficult to achieve with existing properties.

One solution is for investors to develop their own multifamily complexes in the Sun Belt and thereby enhance long-term-oriented residential portfolios. In this way, investors create the much-needed living space themselves and benefit threefold over their long-term investment horizons: Firstly, developing their own multifamily units allows them to be involved in the value chain as early as possible and to reap the rewards of the project developer's margin. Secondly, holding the rental portfolio generates a regular, attractive cash flow, while at the same time increasing the value of the properties in the long term. Thirdly, developing one's own assets ensures that properties are built according to an institutional investor's high quality standards and specific ESG criteria. This avoids compromises that often come with acquiring existing properties in terms of construction quality or sustainability and offers a portfolio that will generate attractive returns over a long holding period.

On the ground expertise is crucial

The last and probably most important aspect that German institutional investors are pursuing in the current market environment is the investment in foreign market expertise. Direct market access and close local knowledge are needed to be able to identify and acquire the most attractive project developments in the most promising locations. One can only get a feel for a location and its immediate environment if one can see it with one's own eyes and rely on local market insights.

For most investors from Germany, it is not worthwhile setting up such in-house structures themselves, and this is why specialised investment partners with a corresponding project pipeline, local partner networks and expertise prevail in the majority of cases. This approach is something that institutional investors from Germany are now taking to heart considerably more than in previous market cycles. In short, we should now be talking about Smart German Money.

For further information about the opportunities in the Sun Belt region, please see Empira Group's latest research study - The Sun Belt: A High-Growth Region The sunny southern United States is becoming the "boom belt" - an analysis of a growth region's socioeconomic drivers (https://www.empira-invest.com//files/empira/pdf/Rearchbericht/Empira_Research2022_EN.pdf)

By Rafael Aregger, head of investments USA, Empira Group.