febbraio 07, 2023
Morgan Stanley’s Lauren Hochfelder On the Firm’s Globally Local Investing
febbraio 07, 2023
Morgan Stanley’s Lauren Hochfelder On the Firm’s Globally Local Investing
febbraio 07, 2023
Co-CEO of Morgan Stanley Real Estate Investing says geographic reach and granular knowledge are coming in handy amid the market turbulence.
As the commercial real estate industry continues to navigate this tumultuous period of market volatility, the time for hanging on to your hats isn’t over quite yet. But, while several lenders and investors hug the sidelines in the hope of a return to normalcy, others continue to boldly transact where others fear to tread — and reap the rewards of doing so in the process.
Lauren Hochfelder took an analyst role at Morgan Stanley in 2000 not too long out of Yale, cutting her teeth in investment banking as well as private real estate investment. Fast-forward to today, and she’s co-CEO of Morgan Stanley Real Estate Investing (MSREI) and head of MSREI Americas.
Globally, MSREI manages $57 billion in assets, its global footprint informing its local investment strategies. The past year has not only underscored its chops in transacting through downturns but also given MSREI a chance to pursue opportunistic investments as well as provide creative capital stack solutions to borrowers hearing the rustle of tumbleweeds blowing from the debt capital markets.
Hochfelder sat down with Commercial Observer during the first week of February to discuss what she’s seeing, and how U.S. commercial real estate is viewed today from a global investment standpoint.
This interview has been edited for length and clarity.
Commercial Observer: Are you a New Yorker?
Lauren Hochfelder: I am indeed a New Yorker, born and bred. I grew up in Manhattan.
You joined Morgan Stanley in 2000 as an analyst. What did your initial role encompass?
I joined straight out of college and so, in some senses, I’ve only ever had one job. I joined as an investment banking analyst at a time when our real estate investing business was housed within investment banking. As an analyst, I had the opportunity to work on both investment banking transactions, and in private real estate investing. It was an unbelievable education in both, but I was pretty quickly drawn to the investing side of it.
How seasoned was the investing business at that point?
The business had started in the early '90s, so it already felt quite established when I joined, but it definitely was quite different from what it is today. Back then, we were essentially a pure-play opportunistic investor, but if you fast-forward to today, we manage $57 billion of assets on a global basis, from core to opportunistic. Our capital has always been quite flexible and as an analyst I had the opportunity to work on everything from large, take-private transactions to individual asset purchases.
Was there an "aha" moment that told you this would be your career?
Well, what I found, and what I love about real estate to this day, is that it can be very granular and also very big picture at the same time. On the granular side, we’re focused on assets where we can roll up our sleeves and create value — whether that’s through developing it, leasing it, or what have you. At the same time it’s very macro, because we focus on sectors and markets tied to strong secular and demographic tailwinds and are positioning our portfolio to benefit from those faster-growing parts of the economy. I love the fact that we focus on making money both ways, if you will.
What has been your experience transacting through the recent market volatility, and where are the key opportunities from an investment standpoint today?
The volatility and repricing over the last 12 months is, frankly, really interesting for our business. We’ve seen many investors sidelined, whether it's the public real estate investment trusts [REITs] that are trading below [net asset value] or the open-end funds or nontraded REITs that are looking at redemption cues, or levered buyers who are saying, "This debt is expensive — if I can even find it." When you have so many different types of players sidelined all at the same time, that creates a lot of opportunity for well-capitalized investors, which we’re fortunate to be one of. The wave of distressed or forced selling that we expected hasn’t happened yet. I think as debt maturities loom and other liquidity needs arise, it will start to come. But, in the meantime, where we can buy the best quality real estate at dramatically reset pricing — and attractive pricing — we are taking advantage of that moment in time when others are not there. We’re comfortable over-equitizing investments and closing in all-cash with an expectation that we’ll refinance later when the debt markets find a new equilibrium. We’re also focused on where we can provide creative capital solutions to asset owners who need liquidity — so not necessarily buying assets but recapitalizations and taking different kinds of structured positions. We can be really creative in trying to solve other people's problems and in doing so generate attractive risk-adjusted returns for our investors.
We’ve seen a lot of those problems stemming from gaps in capital stacks and lenders retrenching.
It’s amazing, isn’t it? Even more so than, let’s say, Europe or Asia, the U.S. debt capital markets are so dynamic with so many different types of lenders, but as we sit here today most of them have retrenched at the same time.
Do you have any sense of how long this window of opportunity might last?
In terms of the scarcity of debt capital, there will be players like us stepping into that capital gap, which will help, but the reality is that until the large banks come back onto the playing field, it's hard to see asset values correcting. The banks still account for nearly 70 to 80 percent of financings, and the reality is that there are — particularly for larger-scale transactions — a predominance of buyers relying on some form of leverage. So, the debt markets need to restabilize, and then I think there’s just a lot of uncertainty in the system and certainly a softening in the economic environment. For us, it’s such an interesting moment, because it plays to our strengths. Less competition is good generally but — specific to us at this moment in time — being such a global player, and having the ability to shift capital and shift investment across countries or across markets within countries is a huge competitive advantage. Markets are behaving differently andcorrecting at different paces, so having global capital is a huge advantage, as is being less levered. Throughout this past cycle we were a lot less dependent on financial engineering than many other players, and so that makes us less impacted when debt pulls back. And we generally are much more focused on income growth — whether it's by picking the right sectors or markets that would benefit from the secular tailwinds, or through asset management. When interest rates are rising and cap rates are gapping out, you need that income growth to offset value declines.
Within the U.S. are there any property types you're pursuing most aggressively right now?
We've been very focused, dating back to pre-COVID, on industrial and residential. I think we were an early entrant into those sectors and, quite frankly, we continue to think they're interesting today. We're seeing continued income growth in our portfolio from the best-quality industrial or residential, but there’s also continued pricing pressure because of less elastic demand, and so there are opportunities there to buy really high-quality industrial assets in top markets, in certain instances below replacement costs. Getting really high-quality assets at reset bases is more interesting to us than chasing low-quality distress.
What is your general take on office today?
In one word, it's bifurcated. I’m still a real believer in the highest-quality trophy office assets in the right markets. I think that tenants’ demand and preference for higher-quality space are the highest I've ever seen. Markets like New York may have really high vacancy, and therefore an oversupply of total stock, but there’s still a real scarcity of the best-quality product. There's also a lot of office product that no longer works. Obviously, a lot of that comes from work-from-home or hybrid-working trends, but we had been dialing back on office here in the U.S. even before COVID, because work from home isn’t the only issue for office — it's also very capex intensive, and can be a very volatile asset class. So, when we thought about relative yields across asset classes, we looked at sort of capex-adjusted yields, and felt that office was relatively less interesting for that reason.
From a global investment standpoint, how does U.S. real estate stack up against other locations?
Looking across the world, I think the U.S. continues to be a very attractive place to invest. It's an incredibly dynamic market with more liquidity than other global markets, and I think the dynamism will help, or has already helped, prices correct more quickly, which makes it more interesting to invest. So, there's dynamic pricing and continued liquidity. I think the economic outlook here is better than, say, the U.K. or Europe where energy prices and inflation are greater headwinds.
What would you say is the single biggest headwind affecting global investment in U.S. real estate right now?
I think the biggest headwind to real estate investments in the U.S. today is the cost of and scarcity of debt financing. When your cost of borrowing is higher than your cap rate, the math doesn’t work.
Do you think we’re going to see that wave of distress we discussed hit later this year?
I think the duration of time that people can push out maturities and problems may be shorter this time around than it was following the Global Financial Crisis (GFC), for a whole host of reasons. There's a lot of debt maturing this year and next year, and there are a lot of assets that need capex, so we certainly see the wave of capital needs coming in the back half of this year and into next year.
This must be some of your more junior staff’s first downturn.
Yes, and it’s funny because many of my senior partners and I have worked together for 15 to 20 years. Our global chief investment officer [Toru Bando] and I started as analysts and literally have been working together from the start. I think the senior partners group working together for so long engenders a lot of trust. Maybe it sounds corny, but we’re now cycle-tested as a team. We worked through the Global Financial Crisis, came out of it, and continued to build and diversify the business. For the junior team, the senior partners sat in those exact seats, and it’s exciting to see them now take this [market environment] on. They’re an exceptionally talented junior team.
How was the GFC for you, and what were some of the biggest lessons you learned about our industry?
I think experiencing the GFC relatively early on in my career was an extraordinarily educational experience as to the power — and negative power — of leverage, and the broader implications of a structure. I think it also taught me a lot of personal lessons in terms of the power of sticking with something. We — like most — had investments that were underwater, and continuing to work on those assets for several years to get to the best outcome took an incredible amount of discipline. I think that experience makes you a better risk manager, but also gives you a lot of arrows in your quiver as to how to solve problems and persevere through situations.
It feels like, as an industry, real estate is in a better position to tackle whatever is coming our way this year compared with the GFC, based on the fact there’s far less financial engineering, more equity in deals, and more skin in the game.
I absolutely agree that we’re in a much better position today than the GFC and that there were many lessons learned, most notably on financial engineering. I think what is a little bit more challenging today compared to then is that borrowing costs are higher, which is obviously not what we experienced then. People are adjusting to that new reality.
And struggling with it.
Yes. We all talk a lot about debt service coverage as the constraining factor on leverage level. And the math is a lot different when you’re using a 7 percent interest rate, instead of 2 percent.
How has your portfolio changed since the GFC?
Our business back then was still substantially opportunistic. Today, if you look across our platforms and all the funds we manage, the majority of our capital is longer-duration core versus opportunistic, and that’s the biggest change in our business in terms of investment strategy. Back then, we were also focused on wholesale to retail, so not exclusively, but buying a lot of large, public companies, and eventually selling off individual assets. Today, in many instances, it’s the exact opposite. We’re aggregating individual assets and amassing them into portfolios. Given capital formation, we’re always trying to invest where we see the least competition and sell into the greatest liquidity and lowest cost of capital, and that’s part of what’s brought us here in terms of buying individual assets and aggregating portfolios.
Where are you seeing the least competition today?
There are the fewest bids for larger portfolios, and I think a lot of that relates to availability of leverage. We also tend to see less competition where we can embrace more complexity, so maybe the asset itself is pretty straightforward, but there’s a lot of structural complexity. We love those situations where you can enter at a better price and reshuffle the capital stack. Our global platform is a huge competitive advantage to us, in terms of being able to look out at macro trends and shift capital to where it’s most interesting at that moment in time. We have 17 offices in 13 countries, so we have boots on the ground basically everywhere we invest, and are incredibly dialed in to local market dynamics. That helps us source and access the best opportunities, gain insight into the nuances on the ground before that information bubbles up into the broader understanding, and relentlessly asset-manage the real estate itself.
How are we doing as an industry from a DEI perspective, and what’s MSREI’s approach to it?
I think we’ve improved pretty meaningfully as an industry over the last 20 to 30 years. We also have more work ahead of us. I was the beneficiary of a couple of generations of women before me, but in our business, investing is all about the future and you need diverse perspectives to make the best judgments — so we strive for that. Being part of Morgan Stanley is a huge advantage in our ability to attract, develop and retain diverse talent because the firm is so committed to diversity and inclusion. It is one of our core values. Those core values permeate our culture more broadly, but we also have specific training programs, recruitment programs and mentorship programs.
Who were your mentors?
I’ve been fortunate to have a few incredible mentors. The one who stands out the most is John Klopp, who runs global real assets for Morgan Stanley. He has consistently challenged and empowered me, while also providing exceptional guidance and counsel.
What gets you out of bed each morning?
I love to learn, and I feel that investing in real estate is this incredible lens through which you can see everything. So, when we buy an office building in any market, we’re betting on the real estate, but, derivatively on the industries that drive that market. For example, if it’s an office in San Francisco, you’re betting on tech and you better understand the trends in the tech space. The intellectual diversity of it is just amazing to me. And then, just at a simpler level, I have this privilege of working with unbelievably smart partners, people who challenge each other daily. That daily discourse and rigor and excitement in having brilliant partners is hard to beat.
Cathy Cunningham can be reached at firstname.lastname@example.org
Co-Chief Executive Officer of MSREI and Head of MSREI Americas
Morgan Stanley Real Estate Investing
By: CATHY CUNNINGHAM,
Finance Editor and Co-Deputy Editor of Commercial Observer
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