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No real estate bubble: JPM, Starwood, Morgan Stanley pros

Downtown Denver
Aaron Ontiveroz | The Denver Post | Getty Images
Downtown Denver

Big names in real estate investing don't believe there's a market bubble.

Despite high valuations, homes, office buildings and other types of real estate remain attractive today, especially in comparison to other asset classes and given low interest rates, according to some deep-pocketed pros.

"We don't think there's a broad-based bubble in the real estate market today nor do we think there's one coming in the next year or two," said Chris Graham, a senior managing director at Starwood Capital Group, a $37 billion real estate investment firm.

"There's still room for upside here," Graham added during remarks Wednesday at iGlobal's Global Real Estate Private Equity Summit in New York.

"While these assets are fully priced, in my view, we are not in a bubble as that would require an extensive expansion in debt," Paul Vosper, co-head of the Morgan Stanley Alternative Investment Partners Real Estate Fund, said after the same event in reference to prime markets like New York City and London. "While the debt markets are expanding, there is still discipline in the credit underwriting of that debt."

Mike Kelly, director of U.S. real estate commingled Funds at J.P. Morgan Asset Management, agreed there was no bubble.

"It's certainly a competitive market," he said, but noted that real estate remains attractive compared to other asset classes.

"When we look at the spread between the 10-year Treasury, which today is around 2 percent, and a 6 percent (investor rate of returns) on a very good quality piece of real estate, we think that spread is attractive," Kelly said during a panel discussion at the same event.

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Low interest rates can both hurt and help the market, according to Kelly.

On one hand, they help assure relatively lost financing costs. "When you're able to lock in those long-term rates ... we feel pretty good about it," he said.

But that same easy money can lead to excessive risk.

"When rates get so low coupled with a market where someone is able to use 75 or 80 percent leverage, it makes it very hard to compete when only borrowing 50 percent or buying something free and clear," Kelly said.

Starwood's Graham said the best real estate investments were not the fanciest ones.

"There's opportunity in quality assets but not the trophy ones—B-plus, A-minus-type assets in good locations," he said. "You can still buy quality assets that are liquid on the way out and get very good cash flow."

Examples of such markets, Graham said, include Orlando, Florida, San Diego, Portland, Oregon, and Denver.

Europe may offer more relative value than America. "We're certainly not stealing anything in the U.S.—in Europe it's a different story," Graham added.

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J.P. Morgan's Kelly cautioned against investing in historically low-quality offices and housing in mediocre markets.

"We did learn some lessons from the last time," he said. "When you look at secondary markets, tertiary markets and the long-term valuation, the ability of those assets in those markets to hold that long-term appreciation just hasn't been borne out."

Vosper of Morgan Stanley called valuations "a tale of two markets."

He said good-quality buildings in prime locations like New York or London, especially offices, are valued at precrisis peaks and may not be attractive, even if there's no bubble.

"This has been driven, in my view, more by a desire for the yield, which still looks attractive versus other options," he said after the conference in an email. "However, we are a reversion to the mean investor and relative to the normal risk-adjusted returns for these types of assets, they seem very fully priced."

Other, less picked-over markets may provide a better opportunity, Vosper said. He gave general examples of buildings with short remaining lease terms or those that need "repositioning" in markets with strong growth potential.

Such geographies might include Charlotte, North Carolina, Dumbo in New York City and Canary Wharf in London.

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