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Spencer Levy
Where's the best place to look for returns on real estate investments these days? Is there an easy answer in any particular markets? Or a hot sector? Or an undervalued asset type? There are burning questions in our dynamic industry. And on this episode, we hear from a leader who's wrestling with those questions while managing over $150 billion of assets.
Adam Gallistel
I'm not necessarily sure everybody makes great money in buying the best-of-the-best because it's often priced as the best-of-the-best. In some ways I think the most interesting opportunities are in the best-of-the-rest.
Spencer Levy
That's Adam Gallistel, the co-CEO and Chief Investment Officer of CBRE Investment Management. A 20-year veteran of global real estate investing, Adam joined CBREIM in these roles in April of this year. He spoke on stage at the recent CBREIM Symposium, an event that was titled, From Crossroads to Clarity. We covered a wide range of themes, including core real estate and alternatives, where Adam and his team are investing and where they're merely curious. Coming up: a clear view of CBREIM's perspective on real estate investing right now, and the unique perspective of Adam Gallistel. I'm Spencer Levy, and that's right now.
Spencer Levy
Well, welcome to The Weekly Take. And it's so great to do a live episode from New York with Adam Gallistel. Adam, welcome the show.
Adam Gallistel
Hello, nice to meet you.
Spencer Levy
Nice to meet you too, Adam. We can go into a hundred different directions, but let's just start very, very big picture. Today is a different day than we were a year ago. Interest rates are looking higher for longer, and it may change our outlook, not only on which asset types we like, it also changes the outlook of where we're gonna get a return from being a cap rate compression to really being a better operator. How do you see it?
Adam Gallistel
I mean, I couldn't agree more. Look, I like to say to the team that hope is not a strategy and I feel like betting on cap rate compression is simply betting on hope. And so if you really want to look at the things that are controllable or in destiny, they're driving income and they're having the operating expertise to select the right assets. And so, if you look, and this is one of the reasons I'm so excited about the CBREIM platform is if you look at our attribution scores around the globe. Historically, one of the things we've been best at is asset selection. And because we're sitting adjacent to the CBRE platform, you know, you told me earlier one of your favorite movies is The Matrix. I would posit that we're an investment manager who sits inside The Matrix, everything's slowed down, our information that comes from the capital markets people, the information that comes from tenant rep, we know what's going on in the marketplace and can see where the puck is or be Neo and move a little bit quicker before everybody else does. And so we can translate that knowledge into driving better decisions at the property and driving NOI forward.
Spencer Levy
There you go. Well I also said one of my favorite movies was Fight Club but I can't come up with a good analogy about that one right now. But let's talk about
Adam Gallistel
Well we won't talk about Fight Club.
Spencer Levy
The first rule of Fight Club! Well played sir. Well played sir. So when we talk about the various asset types, student housing, IOS. And dare I say it, retail was persona non grata for so long, I'm calling it the new original. Why all this move into alternatives versus what we used to call the big three or four?
Adam Gallistel
I think there are probably three reasons. One is office, which used to be 35% of most people's portfolios, has been candidly a bit of a bloodbath over the last couple of years. And so I think as people look to reposition away from office, they have to expand the aperture. I think the second thing is thinking about portfolio construction, the holy grail of portfolio construction is non-correlated assets. And I would say if you look at the alternatives, they often have drivers that are over and above GDP growth driving those income streams. So in data centers, it's increased digital penetration. In student, demand is countercyclical to GDP growth. Put simply, when you can't get a job, you go back to school and hope you can get a job a few years later, right? And so actually, if you think about layering these things into a typical real estate it's very important because the classic four food groups: living, industrial, retail, office, they're actually all fairly highly correlated to GDP growth. And so if you can find things that are driven by something other than GDP growth, increased share of the aggregate GDP, you've constructed a more robust and resilient portfolio.
Spencer Levy
But while we're talking about the big four, this is a good segue to talk about The Fantastic Four. And now we're not talking about the movie, we're talking about the article that you wrote maybe a month or so ago, talking about how there's a fantastic four of opportunity going on in Europe. Why don't you tell our audience what those four items are and why Europe looks so good.
Adam Gallistel
First of all, I love the U.S. I think the U.S. is amazing. It's the largest liquid market, and there will always be opportunities here. But it struck me, especially looking at our U.S. pension clients, how little exposure they had to anything other than U.S. real estate. And so it's not to say, hey, stop doing the U.S., just do Europe. It's to introduce “and” into the equation instead of “or”. Right, and so why do you put “and” into the equation? So U.S. and Europe, not just U.S., right? And the reason you put “and” in is because Europe offers more compelling relative value today. It offers more growth. And frankly, you can be a bigger fish in a smaller pond is that there's just less capital chasing value opportunities in Europe today than there is in the US, even if you adjust for the size of the marketplace.
Spencer Levy
But I would also argue that there are significant operational differences in Europe versus the U.S., particularly when you take a look at, you know, dare I say it, office. I think the consistent theme is we're coming off the bottom here in the U.S., but Europe and the Asian office never quite bottomed like that.
Adam Gallistel
Yeah, I mean, frankly, as you went from east to west, the office story got worse during COVID. So I mean frankly, if you were in Japan, I don't know how many people have spent much time in Japan but between the cultural setup in Japan and the small units you live in, nobody ever left the office, they just kept going. And frankly, Europe in general, well, it did have problems. It didn't have problems to the extent the United States did. And so actually the healing that needs to take place in the office market in Europe is frankly, and Asia for that matter, is better, you're in a better starting position, yet you have good value relative to the U.S..
Spencer Levy
Let's bring the aperture down just a little bit from Asia, Europe, the U.S. and talk cities for a second. We're here in New York City. San Francisco, let's just talk compare and contrast. I would say it's fair to say that San Francisco was a disfavored market three years ago, but if you take a look at CBRE's numbers right now, you see that San Francisco is our number one market for multifamily rent growth. 72% of every AI dollar is going there, so you're seeing new demand there as well. Some people are negative on New York today. I still see those two markets or in those two types of markets as being durable over the long term and because institutions are leaving in some cases a better opportunity. What do you think?
Adam Gallistel
I would actually have different answers for each market. So San Francisco is, look, it's the land that the gold rush built, right? And so San Francisco has always been a boom bust economy, right, and instead of replacing gold, we had .com first, and we're going to have another tech bubble again. But that volatility has always ultimately been up and to the right. And so if you're actually willing to step into what is a roller coaster of a market. I think there's no doubt in my mind, both as a center of innovation, right? More of IP comes out of San Francisco than anywhere else in the world collectively, right, or in the Bay Area. And you can't ignore that. That is a center of creativity, a center of dynamism that will continue to process both in the city and in the Valley. It's not to say it doesn't have its problems, but yeah, I'm, I think, Actually, because it's so volatile in some ways, it's more interesting than New York, which is a little less volatile from a capital-based perspective, because you have people who run for the hills and then they come back. New York? I honestly, I think there's just too many smart people in New York looking at the same opportunities on a tiny little island. And so the idea that you can generate alpha or you see something else that someone else doesn't see here, I find is a bit of a fool's errand. And so well, there's many people chase New York because there's a lot more zeros, there's a couple more commas and so you can do the same amount of activity and when it goes right create a whole lot more wealth. But I would say candidly there are easier places to make a buck than New York City.
Spencer Levy
So is it fair to sum up your basic philosophy of hit it where they ain't, but go to those places that have better growth?
Adam Gallistel
Yeah.
Spencer Levy
And I think some of those places are changing. And so when you go to the mega trends, you talk about the reshoring of manufacturing, you talk about infrastructure, about that being a big theme as well. But that also opens the door to smaller markets. So given that you want to hit it where they ain’t, where are you going to hit it?
Adam Gallistel
Obviously it depends on the sector, but I would say, you know, in very broad brushstrokes in the United States, you've already heard we're actually pretty constructive on retail. We think that's where the puck is going and we just want to get there earlier than everyone else. From a demographic perspective, I actually, and the combination of demographics and supply, if you take the public markets, right, so roll back 15 years ago, the public market said, do Gateway Cities, do the Northeast, shun the Sun Belt. Then they flipped their tune and they said, no, no. Everybody's moving down south. It's cheaper down there, sun shines. I'm going to move down south, guess what? Everybody moved down south and that became a very crowded trade. I actually would say what's old is new again. And so if you turn that smile into a frown, we're actually more interested in the demographics and the supply situation in the frown states today than we are in the smile states.
Spencer Levy
So the Midwest is a market that it's seeing its day in certain types of real estate. You certainly could see that for logistics with I-80, with I-70, you can see it with data centers because they have cheaper water and power. So let's just stay on that infrastructure thing for just a moment. And I know it's a big theme for CBREIM. Tell us why it's such a big thing and sort of what its parameters are.
Adam Gallistel
Sure, everybody talks about data centers as if it's this monolithic thing. And I think what everybody's talking about today is hyperscale data centers. The business that doesn't get talked about a lot is network dense co-location or telco hotels. And actually, and the reason it doesn't talk about a lot is there ain't building very much of it and it's very tightly held. But that is a business, frankly, that is one of the best business in real estate or infrastructure in that the interconnectivity that you get between Amazon, Google, coupled with the interconnectivity that you have from corporates like ourselves, essentially those telco hotels are the grand centrals of the information superhighway. And that interconnectivity is unto itself a moat that's very hard to replicate. And you sort of get this flywheel as more people interconnect with one another, they just lead to more interconnection, more interconnection, which creates the moat ever deeper and deeper. So that business we love. The hyperscale data center business, I would say, again, I'm a student of history, so let's just take a step back, right? There is roughly a trillion dollars going into the ground over the next three years. History would suggest that you won't have positive outcomes for a whole trillion dollars, right, and essentially, I'll give you a couple examples of massive private infrastructure funded projects in the past. So let's go back to the railroads. Railroads were great for America. They were great for the U.S. Economy. They were terrible if you were a banker or a shareholder in Union Pacific, right? Where everybody lost all their money. Similarly, I'll go back to Subsea Cable, right, at the, so that you guys all might remember this company called Global Crossing. So Global Crossing laid the world's Subsea cable. It ended in financial ruin with its investors. And I say this as a cautionary tale in that you have to be very disciplined beyond the hype machine, right. It’s sort of Gates has this rule that he stole from a professor named Amara, I believe. It's called really Amara's rule. In the short run, we all tend to overestimate the impact of a technological advance. In the long run, we underestimate that. And I would say that's exactly what's going on here in that there is a rush to take all the pieces off the chessboard. And, I think there are places to play. You could say data centers are the picks and shovels of an AI. We're actually more focused, not necessarily, we are doing some in the data center space and CBRE is doing an enormous amount in the data center space. But we're also equally as focused on, I will say the rivets to the picks and shovels, right? Is we wanna go out and say, hey, what's the critical logjam here in this gold rush? The critical log jam in this gold rush is power and speed to power. And so we're, and I think of the people who can actually deliver power and speed to the power, we're the rivet providers. To the picks and shovels of the data centers, et cetera, and so on. And so we are focused on how you get batteries into the air-con to allow for sustainable solutions on wind and solar. We're focused on, if not withstanding the regulatory environment we sit in right now, actually the fastest thing you can get online to increase power under the electrical grid is wind and solar, right? You can get that in two to three years. Everything else is a five to 10 year horizon. So I think we're, especially in our infrastructure business, focused on how we can deliver power uniformly as an infrastructure asset across the grid, not just the data centers themselves.
Spencer Levy
Tell us about the dynamics of the real estate versus the operations of that real estate and how you invest.
Adam Gallistel
Okay, I'm all for and instead of or. Look, going back to the data center space, right? The companies we own that have a mixture of hyper scale and co-location, that is both just selling power and credit, sort of vacant boxes, as well as, if you're gonna be in the network dense business, that is an operationally intensive business where you need real operational expertise to drive value. Similarly, I think about our battery platforms, right, so, we, in some ways, it's just a simple off-take agreement where we have a credit-worthy counterparty in the form of a utility who we sell our capacity off to on a long-term off-take agreement. That said, there's an enormous amount of operational complexity that goes into how and when you take power in and how you optimize the sort of difference in price between when it's sunny outside and power's being generated and when it is dark at night, right? And so. Being able to optimize those curves is actually of critical importance. So I guess I come back to your question and I say, you gotta have the operational expertise and I like to keep it simple stupid wherever possible, but sometimes you gotta do both to maximize value.
Spencer Levy
I think we've talked about all the positive sides of tech for real estate in terms of its demand for certain specific types of real estate, data centers, certain specific inputs to that real estate power and water, certain markets like San Francisco. But there's a downside here too. And I think a lot of people in our audience say, gee, well, what does this AI thing going to do to demand for other types of Real Estate? And I think the most obvious one is office or we're going to need less office workers. Maybe we need more high value ad office workers, maybe less back office office workers. We talked about the positive of tech. Is there any negative to tech that you might want to point to?
Adam Gallistel
Look, I'm an unabashed, long-term optimist, and so I'm going to separate the short run from the long run here. In the short-run, there is going to be, in everybody it's widely written about, some creative destruction that takes place in the job market. But that is the same thing, again, being a student of history and you're looking back, it's no different than us worrying about the steam shovel replacing diggers on the side of a hill. Is that, well, there was some loss of jobs up front. Over time, actually, each of these productivity unlocks have led to greater aggregate human well-being and actually greater job growth. I guess what I'm saying in the short run is, yes, there will be job losses. I also am perhaps naively optimistic because of what history tells us, is that there are gonna be tenfold more jobs created for things that we just don't yet know. And then all you need to do is look to the internet where we had this same fear, or is it gonna get rid of all these jobs, or the computer. We said, oh, the computer is going to get rid of all the typists. It's going to get rid of all the stenographers, etc, and so on. And if you look at what that productive capacity unleashed in job growth, especially in the United States, it's a marvel. And I think we'd be remiss to think anything different happens here. If anything, it may accelerate that trend in that in some ways, when I take this computer and I have all of human history at my fingertips with a bot who can tell me how to access it. In some ways, I'm approaching superhuman status, right? And now we all can be superhumans. Imagine how much more efficient and productive we can be having that promise at our fingertips.
Spencer Levy
I think one of the most fundamental shifts that's happening in our market right now is the shift, not completely away from, but in addition to pension funds and endowments, non-accredited investors are getting into the space in a big way, into non-traded REITs in particular, but that's not the only vehicle they're getting into. And I think it's going to change the way we invest. What do you think?
Adam Gallistel
I don't know if it'll change the, you know, I struggle with the idea that it's going to change the way we invest, because that sounds like this time is different, and I find those are the four most dangerous words in finance.
Spencer Levy
By the way, I always say that when somebody says this time is different wearing a fancy suit like this, by the way not that fancy, wearing a suit like this, grab your wallet and run out of the room screaming.
Adam Gallistel
That's a pretty nice wool he's wearing by the look of it.
Spencer Levy
Well, in any event, we could go like that. But maybe it doesn't change the way we invest, but I will say this, there were some unfortunate historical precedents that didn't end well. The tick industry, Tennyson common industry, and maybe the first iteration of the non-traded REITs didn't end as well. But I do think it's a tremendous opportunity for our business, but maybe we need to change the way that we look at liquidity, the way we look at transparency with this new type of investor.
Adam Gallistel
I couldn't agree more. So look, the reality is over the last 30 years, alternatives of which real estate is won, but also private equity, private credit, we've enjoyed a institutional allocation increase going from essentially zero up to, if you're in a down model, as much as 50%. For most people, especially in real estate, most institutional investors are basically at or above their target allocations. Infrastructure is very different in that actually allocations to infrastructure are still growing, and so we still see quite a lot of institutional tailwinds as people move out of real estate to some extent into infrastructure.
Spencer Levy
And I, go ahead, I’m sorry.
Adam Gallistel
But I would say, taking that same framework, and that's why you have such a nice fancy suit, right, to a certain degree over the last 30 years, is if you look at retail capital, the pool of capital is actually slightly larger in aggregate than the institutional pool of capital, and penetration sits at roughly 1% or less, depending on how you look things. And so, it’s, I would be remiss to say that you're just gonna ignore retail capital because clearly, offering what institutions were able to access over the last 30 years to the retail investor is what's going to be the defining moment of the next 30 years. And so you can't ignore it. And one of the things I love about it at CBREIM is I think we're actually well positioned to be part of that. Is that we will continue to service our institutional clients who, and deliver investment excellence for them. But we've been doing two things longer than a lot of institutional managers have that we think gives us an edge. One is that in the public markets, we've been managing capital on behalf of 40-act investors for, I don't know if Joe's here, but I don't know, 30 years, right? And so we actually understand the needs and wants of the retail investor, which actually liquidity is one of them. And two, we've actually been, our bread and butter has historically been large open-end funds. And while they're not quite non-traded REITs, open-ended funds and dealing with them are much different than dealing with drawdown funds. So I think the combination of the two. Positions us well to win. To your point about liquidity is I think everybody has found that retail capital has its pitfalls, most of which is that all capital tends to be pro-cyclical to a certain degree. I would say retail capital tends to be even more pro-cyclical than institutional capital. And so that means in some ways, you're raising the most possible money at the worst possible time. Right? And so, and yet you can't do it on a draw. The money has to come in day one because otherwise it's too administratively complex. I actually think one of the things that the industry's experimenting now, we're experimenting with now, is hybrid products where you offer a combination of private and public securities and that allows you to essentially harness the power of the endowment model that harvests the liquidity premium of private markets but still have a bucket of liquidity should, you know, the sky start falling and all the retail investors hide for the exits. I think one of the problems with the NTR REITs right now is that they get locked up and then they're stuck.
Spencer Levy
By the way, since my producers are in the audience, I will define NTR: non-traded REITs. Every time somebody uses a term like that, they put a little buzzer on me that says you got to define the term.
Adam Gallistel
Okay, well, non-traded REITs. There you go.
Spencer Lev
There we go, there we go. So let's go a little bit more macro for just a second, because I think that when I look at the market, I always put things in a spectrum. I always say on one end of the spectrum is the noise of the moment, it could be political, it could be a natural disaster, it's a terrible hurricane as we are speaking here on stage today. And at the other end of the spectrum is this funny thing called math, and math wins in the long term. Because of this noise of the moment, it creates opportunities that might not have existed before. I'll give you a couple. Border industrial between the U.S. And Mexico, port industrial, another one because of the noise of the moment, getting people scared away. How do you manage the two, how do you either shut out the noise or listen to it and say, aha. So the noise versus the math.
Adam Gallistel
Again, I think one of the best things you can do is frame your analysis through data and through the lens of history. It's very easy through all the cognitive biases that someone like Danny Kahneman outlined to get caught up in the moment and have irrational exuberance, or to be despaired and give up the ghost before you can. I think one of the things you can do is if you orient yourself through the lens of history, recognizing that it's more likely than not that this time is not different, to say, hey, because of all this fear, am I seeing value in the marketplace?
Spencer Levy
And I think a lot of – you use the term data. You didn't use the term, but I'm implying the term, pattern recognition. And we have so much data and we're trying to recognize these patterns, and then we're trying to get an actionable intelligence idea off of it. I'll be honest with yu, I'm on the research side too, to a great degree, but I'm often overwhelmed by that data. How do you make sense of so much data and use it for actionable intelligence?
Adam Gallistel
I think by systematically storing it. First and foremost, is if you have a systematic organization of the data coupled with some frameworks for thinking about things. The frameworks we like to look at are tailwinds and long-term demand drivers. You heard people talk ad infinitum about spreads to the risk-free rate, classic supply and demand, and actually when you just put those four variables together and put it amidst all the noise, patterns very quickly emerge, right? And so you can see what's working and what's not. Then you go out into the marketplace and you go to our friends at CBRE and you have some insights about not just where things priced six months ago, but where are things pricing today? Where are bid pools actually thinner? But my data tells me that's actually an interesting place to be investing. That's sort of the power of being able to take what we do on the research side, go over to our colleagues at CBRE and say, Hey! We think there might be an interesting opportunity. Are we the only one who sees this yet? And that's where we pounce.
Spencer Levy
And by the way, while I'm giving shout outs to the great researchers in the room that spend all day long thinking about this stuff, trying to come up with a new idea – in fact, when I was a young banker at Legg Mason many, many moons ago, my boss said in every meeting, walk in the door with one unique idea. Just one. And I think that's hard today.
Adam Gallistel
I don't think it matters. We're not in the ideas business. We're in the execution business. And so frankly, I would posit there are great ideas out there every day that are just floating around. And it's actually–
Spencer Levy
Second mover advantage, second mover advantage.
Adam Gallistel
Yeah, this is probably a little impolitic to say, but I'll say it anyway. There used to be a saying that some people say first mover advantage, and I would say that works in technology. I would say in real estate, the answer might be that pioneers end up with the arrows and settlers end up the land, right? But actually this goes back to your point: In a world where there's plenty of great ideas what's more important is who can actually execute on those great ideas. This actually goes to your question about operational real estate, is if you have someone who not just can execute on the purchase, but can execute on driving income through that asset, you've actually able to–you've differentiated yourself from the person who just says, hey, let's go multi or let's just go bow and destroy. It's like, okay, now what are you gonna do with it? And the great news at CBRE across the complex is not only do we have the ideas and the ability to execute, we know what to do with it after we buy it.
Spencer Levy
We were very fortunate to have on the show a couple of weeks ago Steve Ross, the former chairman of Related Companies and now the chairman of Related Ross. I bring him up because, blasphemy, because he was building office buildings on the far Westside of Manhattan when the market wasn't great then. But now, he built those same buildings in Hudson Yards, they probably would be 40% more expensive to build. When SL Green built One Vanderbilt, same thing. That's why RXR is looking to build it as well. Even though office is persona non grata in our business, I'm going to just come right and say it. I think it is the single most under-invested class if you look at the right places today. But people are afraid to go into investment committee. What do you think?
Adam Gallistel
I mean, I agree. I'm on record. I am office curious, I call it. And I would say, look, office is not going away forever. There are going to be places where you're going to make good money in office. I would say you will always lease the best-of-the-best, talking about Steve Ross's stuff. I'm not necessarily sure everybody makes great money in buying the best-of-the-best because it's often priced as the best-of-the-best. In some ways, I think the most interesting opportunities are in the best-of-the-rest, right? Not the top 5% but the five to 15 percentile. And I think that for a couple reasons is one, when you're buying those assets, they tend to be smaller, right, so you're outside of New York City, you're not putting a two million square foot bed on which has many commas on it, right. So you can actually create some portfolio diversification and spread your investments. Because so many people are running for the hills right now, you actually have the ability to do what you couldn't do in office for my entire career. Buy office priced off of free cash flow as opposed to NOI. And to me, the pains of COVID and the weakening of demand actually exposed the fundamental flaw in the pricing model in office, which was pricing off of NOI, today you can actually go out and find both, not so much in New York City, but in gateway markets that aren't New York. Some of the Sunbelt markets that have real job epicenters, where you can go buy a newish building, take a 8% discount rate on the contractual income, and ask yourself what you own the residual building at, and you own that residual empty building in many cases. Not all, I would say it's five to 10% of the time at NER – so net effective rent for your producers – yields on cost–
Spencer Levy
Thank you.
Adam Gallistel
–that are 9% to 11%, right? And so that's better than development yields you can achieve in any other asset class. So if I have product that's fit for the current time, so new product, column free, I'm able to actually own after I collect my income the residual at a yield on cost of 9%-11%, that's actually a pretty compelling way to make money and I think it's quite interesting.
Spencer Levy
And I think the way that you describe it is excellent, Adam, because you really segregated the market. We understand the story about trophy. We understand this story about the bottom 10, 15, 20 percent that needs to be demolished or converted. But the best use for that 85 to 95 percent slice is office. Office isn't going anywhere, and there may be some of these compelling returns as well. But I'm going to talk about multifamily for just a moment. SFR, BTR, Sequel Family Rental, Build to Rent. Is a sector that I spent a lot of time talking about and the reason why I talk about it is because interest rates are so high people can't afford a mortgage but there may be risk there because if we see an exogenous event and I think it's going to be a stock market correction I think that's probably the single biggest risk factor out there you could see a significant drop in interest rates which could damage the SFR BTR sector but actually be beneficial to the rest of our businesses sometimes bad news is good news. Sure sometimes bad news is good news.
Adam Gallistel
Is there a question in there?
Spencer Levy
Yeah, the question. The question is housing, where you're playing. We heard about student housing. I said I gave something downside to SFR BTR, but I'll be more specific So you mentioned the Smile States If there's any place where there's overbuilding in multi-family right now, it's in the Smile States. There's places like Austin, Texas. I can give you the supply-demand numbers, but I will harken back to the supply demand numbers that were in Nashville 10 years ago when I was knee-deep in research. He said, oh, they're not going to absorb it for 10 years. They absorbed it in three because of job growth. So doesn't that represent an opportunity today, some of these high-growth markets that Austin are overbuilt, if you can get it at fair market value?
Adam Gallistel
Let's separate a couple things there. Long-term, yeah, sure, compelling. Recognizing, though, that there are fairly low barriers to entry and are likely to remain fairly low barriers to entry for a while. The thing that I struggle with is your fair market value question, is you're still being asked to pay cap rates for high quality stuff in the 4% and 5% range on this thesis that you're going to have supernormal rent growth on the back. I think the thesis on supernormal rent growth on the back is at least debatable. Put differently, I'm highly skeptical you're likely to see that. A couple reasons why is one, this idea that we have a housing shortage is, I think, overblown. Right. If you just I'll give you a couple data points. One is if I asked you in the ‘90s. Hey, is there a housing shortage? What would you have answered?
Spencer Levy
I probably would have said yes.
Adam Gallistel
You would have say yes. You would have probably been the only person in the room who would have answered yes. So most people in ‘90s weren't talking about housing shortages, right? And the reality is the total stock, so rental stock plus existing homes, the actual aggregate inventory as a ratio to households, there are more inventory per household today than there was in the ‘90s. I'll give you some other data points. So if there truly was a housing shortage, how is it that we've had three and a half years of 30 out of the 35 major multifamily markets with subinflationary to negative real rental growth?
Spencer Levy
Because you're looking at the Class A segment.
Adam Gallistel
No, but even in, yeah, it's fair. So third thing I would say is if there was truly a housing shortage, what do you think frictional vacancy is in multifamily?
Spencer Levy
I would say frictional vacancy – meaning that the inflection point between when it's a landlord's and a tenant's market – is how you define it.
Adam Gallistel
No, I just mean there's no more housing stock. The only vacancy that exists is the vacancy that comes from the churn of the units. Sure, so I would say it would be probably 5%. Yeah, I would see three, okay. So going into this supply boom, national multifamily stats were running in the low 90s. There's three to four points of unexplained vacancy that would suggest that actually the housing shortage is not nearly as acute as what's suggested.
Spencer Levy
And once again, I think when you segment it, because it's renters by choice versus renters by necessity. Which is why when I talk about housing, I always say, go one layer below.
Adam Gallistel
Yeah, so I agree that there's a mismatch in inventory, both by geography and price points. And frankly, going back to your ultimate question is, where we find the more compelling opportunities is playing the Frown States in the more affordable housing components. Be it manufactured housing, be it true workforce, little-a affordable. We actually see that as having a deep and wide pool of demand and that specific segment as being somewhat undersupplied in the market.
Spencer Levy
And by the way, for our producers, again, the difference between little-a affordable and capital-A is one is LIHTC – low income housing tax credits – lowercase-a does not necessarily need and probably doesn't have government funding.
Adam Gallistel
Right, it's free market units. It’s just targeted towards the meat of the population, the meat of the renter population and frankly the meat of the aggregate U.S. Population.
Spencer Levy
Okay so let's go to this Alpha thing again because that is why everybody is sitting in this office looking for the best risk adjusted returns and they had some terrific ideas up there. Industrial outdoor storage which I love and the reason I love it is because people don't love it. Who wants another truck stop. People don't want another manufactured housing, so it's supply constrained. And also the three best words in iOS is as of right because a high percentage of non-conforming use is so very hard to do. But what do you think are some of the new areas? If you were to say, okay, we're going to go buy manufacturing buildings and we had a guest on the show from New Mountain Capital who does exactly that. What are we missing here today? I fought for years to have CBREIM and you know who you are in this audience to get into retail and they finally did. But manufacturing still can't get you over the hump. What are some areas would you like to get over the humps?
Adam Gallistel
That's not true. I actually am not opposed to manufacturing. To me, that's just a derivative of triple net lease or sub-sector of triple-net lease. To me, the importance on manufacturing is I got to have enough term and enough credit to deal with both the residual cleanup issues as well as the likelihood that once that tenant goes, that building doesn't really have an alternate use. But you find me a 20-year manufacturing deal with 3% bumps, I'm your man. I'm in there.
Spencer Levy
You know what, we will, because they exist out there.
Adam Gallistel
Oh, by the way, I have 8.5 to 10% cap rates.
Spencer Levy
Well, we're out of time here today.
Adam Gallistel
No, but that's where data center developments are getting done. Why should it be any different for a manufacturing plant where its useful life is probably about 20 years?
Spencer Levy
And the manufacturing–some of the manufacturing and in the words again to quote from The Weekly Take since we're on The Weekly Take, it's necessity manufacturing. So if this manufacturing goes out of business so does the company. So, if it's mission critical maybe there's more value there even if you don't get your eight or nine percent going in yield. Maybe it's seven and a half percent because you're still going to get a spread above the cost of your debt.
Adam Gallistel
Yeah, but from my perspective, it's just that. It's a credit analysis. It's not just because the word manufacturing is in there. There's no reason to run away from the term manufacturing. You just want to understand what's that durability of that income. So what's the credit of your mission critical. I would always caveat, you know, I gave you the caveat and this time is different. When people say mission critical, I always remind them it's mission critical till it's not, right? I can tell you about all these corporate suburban campuses that got built in the last 50 years that were quote unquote mission critical.
Spencer Levy
Well, you're talking to a guy who has both a 3D television and a buggy whip in his house. Okay. I know what mission critical is. It's durable, baby, it's durable. So we've got one minute left to go here. This is your 48 seconds of crystal ball for the next year. How's the market going to do?
Adam Gallistel
I'd say a couple things. One is I do think as we start to stall and the bid-ask spread narrows, you're going to see more transaction volume coming into the new year. I wouldn't say it's going to be a hyper return environment just given where cap rates were starting from. I think it's gonna be a more normalized environment. I do the trade over the last 15 years where you just picked a sector and if you got the sector right, you were golden. I actually think that there's closer convergence across our expected return outcomes across all sectors than there has been in about 15 years. And that speaks to it's a stock picker's market, and you're going to drive value through the assets you select and the income you generate. And so having both operational expertise and deep boots on the ground experience is going to be a differentiator. And I would posit, here's the advertisement, is there's no one better to operate in that environment than CBREIM. As I said, through virtue of our parent, we're inside the Matrix. We have a global imprint where we have industry leading funds on multiple contents and multiple jurisdictions, both public and private and in infrastructure. What more could you ask for? I'm super excited.
Spencer Levy
Well, you should take the red pill too, not the blue pill, because then you'll know the truth. And we're out of time, but what a great conversation. Adam Gallistel, thank you so much for coming out. Let's hear it for Adam.
Adam Gallistel
Thanks, Spencer.
Spencer Levy
Thank you, Adam. A well deserved round of applause for Adam Galistel, indeed. There are more conversations on our website, encore engagements with our far-reaching archive of episodes. You can find it all at CBRE.com/TheWeeklyTake. With just a matter of weeks left in the year, we're also working on new shows, including programming for another informative and insightful year in 2026. To stay on top of what's coming on The Weekly Take, you should subscribe on our website, or on Apple, Spotify, or wherever you get your podcasts. Thanks for joining us, and we hope to see you again soon. I’m Spencer Levy. Be smart. Be safe. Be well.
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