Cities, Commercial Real Estate at Crossroads

The commercial real estate market is at a turning point. Sales of office buildings, shopping malls, apartment buildings, and other income-producing properties are on pace for the strongest performance since 2007. However, several potential pitfalls loom for urban areas and the industry as a whole, according to speakers at the seventh annual Chicago Booth Real Estate Conference. The conference, “The Future of Cities, States, and Interest Rates,” was hosted by Booth’s Real Estate Alumni Group (REAG).

The morning began with a fireside chat featuring Dean Sunil Kumar, George Pratt Shultz Professor of Operations Management, and Steven Koch, ‘82, deputy mayor of Chicago and former investment banker at Credit Suisse. Chicago strives to maintain a strong corporate recruiting effort, encouraging companies across industries to relocate to the city, Koch said. Koch also discussed the city’s plans for investments in infrastructure and sustainability. 

Indeed, Chicago and other cities continue their pursuit of an “urban golden goose” that will attract residents and businesses. The golden goose is the sweet spot of factors—including a highly educated populace, low crime, and pollution control—that puts cities on the path to prosperity, according to Matthew Kahn, ’93, a professor at the UCLA Anderson School of Management and UCLA School of Law.

For a modern city to flourish, Kahn has found, its citizens need to be educated enough to sustain a strong skilled labor base. Among major metropolitan areas, Chicago “leaps over the rest of the U.S.,” with about 30 percent of its population holding college degrees, he said. Kahn is bullish on Chicago’s future, citing the city’s diverse employment, leading universities, and vibrant downtown. 

“Cities that are clean, green, and safe can be confident that they will attract and retain” skilled workers, Kahn told attendees at the Gleacher Center event. His 2010 book, Climatopolis, focuses on quality of life as an anchor for big cities, which holds true in Los Angeles and New York, as well as in Chinese cities and other international urban centers. 

Meanwhile, the U.S. economy is in a “sideways slide” with slow growth and a gradually declining unemployment rate, Randall S. Kroszner, Norman R. Bobins Professor of Economics, said in the faculty keynote address. Labor force participation is the lowest since the late 1970s, he added.

Furthermore, Federal Reserve monetary policy is poised to become more restrictive, even as job growth remains tepid more than four years after the recession hit. “As Fed policy becomes less accommodative, we have a potential problem—not enough improvement in the fundamentals,” said Sam Chandan, president and chief economist at of New York–based research and advisory firm Chandan Economics. This is an “extraordinary challenge longer-term. The kinds of jobs we’re creating are not supportive of commercial real estate."

Meanwhile, the Fed’s benchmark short-term interest rate likely will remain near zero for the foreseeable future. But long-term rates, which are linked to many real estate loans, have already surged this year and probably have further upside, Chandan said. 

Among wider trends, a “REIT-ization” of the global real estate market is expected to continue as investors try to capitalize on rising incomes in Brazil, China, Mexico, and other fast-growing countries, according to John G. Schreiber, president of Centaur Capital Partners and a co-founder of Blackstone Real Estate Advisors. Real estate investment trusts (REITs) are “big players and going global,” Schreiber said in the luncheon keynote address. In China, “they’re building malls like the U.S. used to.”

Joseph L. Pagliari, Jr., clinical professor of real estate, closed the day with a discussion of the risk-adjusted performance of various real estate investment strategies, including core, value-added, and opportunistic. Whereas indices of core and opportunistic investing did well, the index of value-added funds fared poorly, Pagliari said. And of course, “real estate investment professionals surely will be spending much of their time assessing the future of cities, states, and interest rates.”—Bruce Blythe