Capital expenditure is a crucial yet sometimes underappreciated component in real estate underwriting, as it directly eats into the cash flows available to investors. While a given sector may benefit from certain tailwinds (e.g., demographic shifts, technological adoption, etc.), elevated capital expenditure requirements can materially impair the growth and durability of net operating income. This is particularly relevant in spaces like life science, medical office, and data centers, where structural demand is strong but operational and replacement costs are high.

A clear takeaway from this week’s chart is the connection between GDP-driven sectors and elevated capital expenditure burdens, with both the office and hotel spaces standing out as significantly more capital-intensive than other property types. Specifically, the office sector has suffered sharp valuation declines in recent years, but its capital expenditure challenges were apparent even before that correction. Aging building stock, tenant improvement costs, and escalating obsolescence make net operating income growth difficult within the office space, especially for older assets in secondary markets. This structural drag further complicates recovery prospects for the sector in a post-pandemic, hybrid work environment. On the other end of the spectrum are self-storage assets, with capital expenditure at only 7.7% of net operating income. The low capital intensity, scalability, and operational simplicity of the self-storage space make it one of the most capital-efficient sectors within real estate and especially attractive given the uncertain macroeconomic environment.

In conclusion, while sectors like office or retail may exemplify industry innovation or trend leadership, select opportunities still exist within these spaces. Diligent asset selection that focuses on location, tenant quality, lease structure, and physical upgrades can lead to attractive risk-adjusted returns, even within sectors that exhibit higher levels of capital expenditure. In a yield-starved world, nuanced underwriting and asset-level differentiation remain essential when it comes to extracting value from these spaces.

Over the last 20 years, U.S. homeowners’ total home equity value has risen by more than 150% to roughly $35 trillion. This meteoric rise in home prices has helped many Americans build wealth but has been hazardous for a particular demographic: first-time homebuyers. These higher prices, along with high mortgage rates (the average 30-year fixed-rate loan is around 7.0% as of this writing) and reluctant sellers, have combined to keep potential first-time buyers largely out of the housing market. In 2024, a record low 24% of U.S. home purchases were made by first-time buyers; this figure is down from 50% in 2010. The median age of first-time buyers has also increased to 38, significantly higher than a historical average that is nearly 10 years younger.

With no signs of U.S. housing prices falling, many prospective buyers will be forced to continue to rent. This dynamic should sustain tailwinds for multifamily housing rentals, to which investors can gain exposure via core ODCE funds. Indeed, as of the end of the third quarter, multifamily housing constituted nearly 30% of the NFI-ODCE index. These trends in home affordability have also led institutional investors to increasingly move into the single-family housing market. While some cities have seen a glut of multifamily supply in recent years as investor capital has poured in, broader fundamentals remain sound.

With the 2024 presidential election in the books, investors have now turned their focus to what the incoming Republican administration might mean for the performance of various asset classes. As it relates to the real estate space, the Trump victory did lead to a subsequent swing in both mortgage rate levels and the prices of housing-related equities, which are highly rate-sensitive. To that point, the average rate on a 30-year fixed mortgage climbed 9 basis points yesterday to more than 7.1% and housing stocks dropped, with home builders and materials companies like Lennar, D.R. Horton, and Home Depot down more than 3% during yesterday’s trading session.

While it is too early to forecast the impact that the new administration will have on commercial real estate specifically, readers should note that returns of the NCREIF Property Index, which tracks private real estate owned by institutional investors, have been nearly identical across Democratic and Republican administrations throughout history. Specifically, the index has posted an average annual return of roughly 8.7% under each party dating back to the 1970s. This consistency suggests that real estate performance is more closely aligned with economic cycles, long-term fundamentals, demographics, and property demand than it is with the political landscape.